CMBS Set Up for Failure

Unfortunately, the world of commercial real estate seems unlikely to avoid very turbulent waters ahead. The epicenter will undoubtedly lie in the mountains of loans that were written in the go-go market and are to begin renewals in the next 2-3 years. Most of these loans are performing today, but how does one renew these loans? Lenders have tightened their credit requirements. Loans that were written at 70% LTV's interest only, non-recourse will now be required to be written at 50-60% LTV's, fully amortized with some form of recourse . And, if this development were not bad enough, add the fact that the some markets have deteriorated by upwards of 30 to 35% and you can understand why there is a problem. In a world were liquidity has dried up for many in the commercial real estate investment arena, where will investors find the capital to pay these loans down to bring them in to compliance with the new standards and avoid repossesion by creditors?

No where is this issue more of a challenge than in the Commercial Mortgage Backed Securities (CMBS) market. These loans are traditional loans that were packaged and resold in the debt market as securities to third party, passive investors that have no relationship with the borrowers. The chance of a negotiated settlement in a distressed renewal situation is less promising with CMBS loans, when compared to bank held debt in which the borrower can visit the office of a banker in which they have relationship and hammer out a deal in which neither party looses their shirt.

The government understands that a spiraling commercial real estate market could send the economy on another downward leg already has CMBS on its radar for TALF bailout. How the market deals with this situation in the coming years will be interesting to say the least.