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

Yesterday, the Commercial Mortgage Securities Association (CMSA) submitted a comment letter [download] to the FDIC concerning the FDIC's 'Safe Harbor' rule [down load the FDIC's Advanced Notice of Proposed Rulemaking] covering the securitization of commercial real estate loans. 

Of course, the CMSA is not the only industry organization to comment on the FDIC's proposed rule.  For example, Housing Wire [link] describes comments to the proposed rule raised by the American Securitization Forum, the Mortgage Bankers Association and the Securities Industry and Financial Markets Association.

The FDIC's proposed rule is designed to isolate, from the failure of a bank, the underlying assets of securities held by the bank.  The treatment by the FDIC of assets transferred by a bank in connection with a securitization, and the subsequent failure of the bank, is an underlying building block for securitization - simply because investors will NOT buy CMBS bonds if the underlying loans may be stripped from the CMBS pool, if the bank that originated the loan goes into FDIC conservatorship or receivership.

Under the proposed new rule, the safe harbor would be amended to include numerous preconditions regarding a transaction’s capital structure, disclosure, documentation, origination and compensation.

I really don't have anything to "add" to the pointed comments made by these organizations .  If you want the "detail" on their perspectives, I've furnished you the links (above).  (They contain some very, very interesting points.)

My focus is on the following statement in the CMSA' e-mail announcing its comment letter:

"[The] CMSA suggests that the FDIC work in concert with Congress, the Obama Administration and the other agencies that are developing securitization reforms to ensure that FDIC's safe-harbor efforts do not lead to a regulatory framework of conflicting or overlapping requirements that may impede the restoration of functioning credit markets."

My read of the situation remains unchanged:

• unlike at the creation of the CMBS model in the early '90s, the financial crisis and the role of CMBS 2.0 in it is a political process - which means a large number of parties have a voice in the process
• the changes needed to restart the CMBS model (referred to as "CMBS 2.0") are not easy
• mid-term elections mean that Congress will NOT address this critical component of the credit crisis once the heavy campaigning begins (in August) . . .
• . . . which leads to the conclusion that in 2010, we will NOT see a return to a meaningful CMBS market.  In other words, no CMBS 2.0 for the small commercial real estate borrower.  Sure, single sponsor deals with the best DSC, LTV and other uber-credit criteria will be launched (good for Wall Street).  But a multiple borrower pool of small loans (help for Main Street)?  I say not in 2010.

I hope that I'm wrong.

If you view it differently, please comment below.

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National rating agencies, and Standard & Poor's (S&P) in particular, are developing new analytics to be applied to CMBS and RMBS pools originated in the years 2005, 2006 and 2007.  As a preliminary matter, it looks like the new criteria will, when applied to the Triple-A tranches, result in downgrades of a substantial percentage of Triple-A CMBS for the three years of issuances reviewed.  While the details of the analytical changes have not been made public, investors holding RMBS and CMBS, as well as those with a stake in seeing that the securitization industry be revived in some form (such as the CMSA) are naturally inquiring to S&P about the specifics involved in the analytical changes.

It will be interesting to see if S&P is merely changing the stress assumptions for further declines in the market, or if in fact they are adding new criteria from lessons learned along the way in the financial crisis.  Since not all Triple-A CMBS pools have anywhere near the same kind of risk characteristics, perhaps a reexamination of Triple-A CMBS, in order to make meaningful quality risk distinctions between pools, would be a good thing for the market.  However, S&P's decision is likely to add more unwelcome investor confusion to the mix.

As most of you know, the Federal Reserve created the Term Asset-Backed Securities Loan Facility (TALF) to help borrowers and lenders as market participants meet the capital credit needs across a wide range of asset classes, including asset-backed securities (ABS), collateralized by auto, student, equipment, credit card, and small business administration loans.  More recently, commercial mortgage loans including CMBS were added as an asset class eligible for TALF.

On Tuesday, June 16, TALF offered borrowers the opportunity to participate in one of the first CMBS offerings in a long, long time.  The rate available for a loan with an average life of two years was 3.2710% and for five-year, fixed rate loans the rate was 4.130%.  Surprisingly, (or perhaps not surprisingly) even in the present capital starved environment, no loan requests were submitted for CMBS/TALF borrowing execution.  There could be a number of reasons for this, including continued investors current aversion to risk, particularly in this asset class, a continued belief in future weakening of real estate fundamentals, as well as uncertainty about the precise nature of the TALF execution.  At any rate, the last thing mortgage capital markets need is greater uncertainty caused by rating agencies mentioning (but not fully explaining) significant future downgrades of Triple-A CMBS.

This takes us full circle; back to an examination of the fundamental, underlying assumption that criteria can be developed which will adequately assess risk for securitized pools backed by commercial real estate.  Commercial real estate investments as an asset class, poses very unique risks and rewards, and arguably are not susceptible to precise bond ratings.

The problem is that rating agencies have taken on the task of providing "on going surveillance" for these asset classes.  As S&P collects more information about pool performances, their rating assumptions and general market conditions, they are likely facing a growing need to rerate CMBS pools.

Overall, National Recognized Statistical Rating Organizations risk much by stepping out and being active in the present regulatory/political environment.  If they do nothing, they will clearly draw significant criticism.  As the need to regulate rating agencies draws increased scrutiny and the possibility of creating federal oversight of these agencies increases, the rating agency should be very circumspect in changing rating methodology midstream and the effect such actions will have on an already dormant market.  And it's very difficult to see what type of analytics, when applied to CMBS pools, will shed light on what's happening in the market, given the dearth of reliable activity and data.

Perhaps a better approach would be to simply issue surveillance reports that show specifically what analytics have been employed to arrive at the more generalized conclusion that investors can not rely on the present accuracy of the original rating.

CMBS investors as well as rating agency professionals are invited to comment.
 

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