Tough Times for Lenders : Financial Services Lawyer & Attorney : Winstead Law Firm : Finance, Banking, Bankruptcy

(This is my last blog covering the CREF-C June Convention)

Below is a very random collection of information (and comments) as “take aways” from my attendance at this convention earlier this week. You'll note that I really don't jump into the CMBS 2.0 panels, nor into the special servicing panels. Why? Most of the content from those panels is not really new - or simply not that interesting to me. And there were a couple of panels that were so, so detailed - I simply can't drag you through it here.

So, on to random but hopefully interesting –

• Forums: the CREF-C is organized around interest groups that it calls “forums” [list]. Yes, the list is, in substance, remarkably similar to the MBA’s council structure. No real surprise in this look-a-like approach: as least with respect to commercial real estate, they are pulled by the same magnetic source.
• Portfolio Lender Forum (and focus): this list addresses topics of concern to life insurance company lenders, and has some real mind-benders and heart burn in it.  Generally, the life company mortgage lenders are being very cautious - and one reason is all of the uncertainty surrounding these issues -
  • NAIC Capital Adequacy Issues: this is the MEAF concept, the all-important risk-based capital requirement. As noted by the WSJ last week [subscription required], the MEAF subcommittee of the ACLI has recommended (for yet another year) some temporary relief in the MEAF requirements for 2010.  The WSJ reports that the action will reduce (for 2010) from 4% to 2.6% a proposed increase in risk-based capital for life insurers whose portfolios contain commercial mortgages. The original proposal would have cost the life insurance industry an addition 53% in capital; under the revision, capital would be roughly 12% higher than it was in 2009. However, a permanent solution is needed (a suggested approach is expected by this committee in August).
  • Rating Agency Experience & Stress Test Methodology: the complaint here is that the rating agencies simply do NOT utilize appropriate stress test on life company mortgage loan portfolios. For example, why do they use CMBS stress tests, designed for IO (interest only) loans, in the review of life company mortgage loans that amortize? And concern was raised at the perceived lack of experienced staff on the part of the rating agencies, which goes to their ability to thoroughly evaluate life company mortgage loans.
  • Government Sponsorship of Community Banks: this is a topic that I have addressed in several blogs [latest blog, which refers to other blog entries]. The bottom line here for the life company mortgage lenders: any government program supporting community banks will put life companies at a competitive disadvantage, and be a barrier to a “level playing” field.
  • Fair Market Value Accounting (new FASB rules): concern was expressed that this concept is not accurate in that unlike other investment products, such as bonds (which are a “trade today” approach), mortgage loans are a product designed using a “hold to maturity” approach. The general belief was that this change, which is being driven by the accounting world, will be implemented by 2013. My take away: this could be an additional reason to DECREASE mortgage loan allocations. Yes, less money available to the CRE industry. Not a good thought.
• Distressed Debt Sales – When?? Of course, this is THE question for many, many and many "opportunity" funds formed in the last 3 years, who have raised capital in hopes of great values (read: discounts) in the sale of distressed commercial mortgages from life companies and banks. The general consensus at the CREF-C convention: this is the second year for banks to stash cash as capital reserves, which should meant that 2011 will be the year when the banks will be able to (finally) sell “bad” mortgage loans at some sort of discount. What about life companies? Nothing was said – which I take to mean that life companies generally still are selling notes quietly, and selectively right now; but the volume is NOT large.
• Financial Reform: This should NOT surprise you, given that the CREF-C is pulled by the same magnetic force (commercial real estate finance) as the MBA – my summary of the MBA-CREF [link] was repeated; almost word for word. So, I’ll repeat it: [link]
• Better Attitude: yes, the JPMCC 2010-C1 deal had everyone in a hopeful mood [link] – but most people were still guarded given the experience of the tough times over the past several years. But hopeful. But expecting that the “lessons learned” from the Christmas Credit of 2004-07to be quickly forgotten and somewhat repeated – after all, this market is built on competition and repetition.

I hope this is of interest. If you have any questions or comments, please post them below.
 

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At the end of last week, the FDIC's Board of Directors adopted an interim final ruling amending 12 CFR Section 360.6 and provided a transitional "safe harbor," effective immediately for all participations and securitizations in compliance with that rule as originally adopted in 2000.  This action confirms that, notwithstanding proposed changes to "true sale" treatment under generally accepted accounting principals adopted by the Financial Accounting Standards Board which go into effect January 1, 2010, participations and securitizations completed or currently in progress on or before March 31, 2010 will be "grandfathered in" by the safe harbor provisions of Section 360.6.

In making the announcement, FDIC chairman, Sheila Bair, stated that the action was necessary in order to provide "clarity and stability to the financial markets."  Chairman Bair went on to state that "with changing accounting rules, we need both to insure that participations and securitizations that have relied on our existing regulation retain that protection and to consider needed reforms for securitizations going forward."

Chairman Bair also announced that the FDIC staff would propose at its December meeting a set of conditions that securitizations initiated after March 31, 2010 must meet to receive safe harbor treatment going forward.  The FDIC's actions aim to accomplish the competing agendas of calming down an uncertain market in the face of potentially disastrous changes to sales treatment under accounting rules, and the longer-term need to address meaningful securitization reform. Chairman Bair stated "we have seen the problems that the 'originate to distribute' model played in the build-up to the financial crisis, and we must insure that future securitizations do not place the Deposit Insurance Fund and our financial system in jeopardy."

As most of you know, many commentators have observed that surely regulators would come to the relief of financial institutions and avoid retroactive application of changes to the sales treatment rules proposed by the Financial Accounting Standards Board.  That's exactly what happened last week for FDIC regulated entities.

But, Chairman Bair deftly left the door open for additional rule making by the FDIC with respect to sales treatment for participation and securitizations originated after the first quarter of 2010.

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The first day of the 2009 MBA's Commercial/Multifamily Servicing and Technology conference has ended.

It has been a long day, filled with attending panel presentations and meetings with people over meals, in the halls and at receptions.  It started at a 7:30 breakfast and ended @ 10p (when I refused to join a group that headed toward B___n Street).

Attendance this year seems down by @ 40%-50% from prior years.  Indeed, several companies told me that they would not be attending this year.  And many companies seem to have sent only 1 or 2 people this year; instead of the usual 4 or 5.

It is late, and if I don't get this down-load out soon, tomorrow will hit with more panel presentations and meetings - and I'll "lose" these data points.  They are in the order collected by me during the day - and so they are NOT ordered by relative importance.  Here is the down-load  (remember, this is a blog and not a thesis or brief; and it is very late).

(One other preliminary and important thought: if your boss requires that you prepare a memo on the conference, consider this permission to cut'n paste as you wish . .  . . )

From the opening general session:

• during the next 2-3 years, the commercial mortgage finance industry will focus on servicing & asset management, which will be the new front line for the industry
• unemployment remains a key leading indicator of the performance of real estate as an asset class (and since unemployment is expected to increase, it will take several years for the asset class to recover)
• while defaults presently are @ 3%, some predict that the default rate will increase to 6%; consequently, special servicing will become busier, and the need for greater transparency will be increased (in order to support better decision making) (Note the Fitch report described below.)
• one speaker articulated five areas of focus for the industry: (1) greater transparency (with "real time" property performance data); (2) the need for high quality and detailed physical asset condition inspections; (3) greater focus on customized business plans for each asset, which points to the need for more expertise by special servicing; (4) the increase in defaults will strain human resources at companies (and require greater recruiting, more training and better integration); and (5) companies must be better at understanding macro trends and changes

From a session on developments in Washington, DC:

• expect more changes and experimentation by policy makers
• accounting issues include: (1) FASB 140 (true sale changes); (2) FIN 46(r) (balance sheet consolidation with the "primary beneficiary" of securitization vehicles); and (3) FASB 157 (fair value); all due to "FASB's perceived suspicion" of real estate structures
• REMIC reform will take a back seat to other issues at Treasury
• Single Purpose Vehicle (or single purpose entities) and separateness covenants: the General Growth Properties bankruptcy will be an initial stress test of this "bankruptcy remote" structure; although one panelist labeled the GPP structure as "SPE light with bad cash management."  Another panelist called the GPP case simply "bad facts, which should not be followed by other situations."  (This last point puzzles me: a clever borrower might view the GPP case not as "bad facts" but as a "helpful road map.")
• One panelist expects to see a new securitization in 3rd or 4th Q of 2009.  Wow.  Given all of the accounting and structure "issues" detailed during the day, anticipated increase in the default rate, etc. - a securitization in 2009 would be . . . well  . . . wow.
• Federal limits on executive compensation are a huge problem for investors; and are chilling the market by impeding companies from participating in Federal programs
• Terrorism insurance needs to be addressed . . . but the Executive Branch needs to cut programs - not increase the funding of them.
• Welcome to the "Age of Regulation"

From a panel session on dealing with troubled securitized loans:

• even life companies are starting to see their mortgage portfolios in distress (so they are focusing in-ward on their portfolios; and not outward to refinance CMBS loans)
• the demand for new commercial mortgages exceeds the supply
• long term, fixed rate interest mortgages are limited in amount
• property values are difficult to establish
• debt service coverage & loan-to-value criteria are very conservative (and thus underwriting is tough)
• CMBS structures do not offer refinancing (with only a limited ability to extend)

From a panel session on today's servicing challenges:

• servicers are surprised that subordinate lenders do not understand their rights (relative to the rights of the first-lien secured lender)
• communication among the lenders in the credit stack can be "challenging" (Wow; that was an understatement.  I've seen some deals where the disparate balance sheets and agendas of the lenders present the biggest hurdle to resolving a distressed project.  The project and the borrower can almost be an afterthought)
• valuation is a huge problem: every party at every point of the debt stack and the equity stack needs a good\reliable value in order to make decisions.  No value=No decisions=No peace
• as reported by Fitch Ratings in an April 29, 2009 special report, CMBS special servicing volume increased by more than 5.0X in the 15 months ending March 31, 2009 (from $4.6B at 12/31/07 to $23.7B at 3/31/09).  And these figures do not address distressed bank debt, nor distressed life insurance company debt.  More wow.

Taken together, I come away from the day with much the same impression as I did on that day three session at the EU conference last fall: no one is clapping.

Time to go to bed.

If you have your own comments, or follow up questions, please post a comment below.

P.S.:  Returning to the eating theme from my posting on Tuesday, and before I get some sleep -  here's another good restaurant in New Orleans: Herbsaint Bar and Restaurant.  This is the second restaurant recommended to me by a New Orleans native.  I now understand.  It is very, very good.  Not as fancy as Nola; much more stylish than Jacques-Imo's. And not in the French Quarter. Together, all three restaurants will pull me back to New Orleans.

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