Bloomberg News

Bubble-Era Mortgage Wave Maturing Imperils CMBS: Credit Markets

December 07, 2011

Dec. 8 (Bloomberg) -- A $19 billion wave of five-year commercial mortgages originated at the height of the property- market bubble starts maturing in less than a month, sparking concern that delinquencies will accelerate.

About 43 percent of the $44 billion in loans packaged into bonds that come due next year were arranged in 2007 before property values tumbled 42 percent, according to Bank of America Corp. The largest deal ever, a $7.3 billion issue by Goldman Sachs Group Inc. and Royal Bank of Scotland Group Plc, has $586 million of loans maturing in 2012, Bloomberg data show.

Owners of everything from strip malls to Manhattan skyscrapers may find it harder to refinance after Europe’s fiscal crisis sent relative yields on commercial-mortgage securities to the highest level since February 2010, roiled credit markets and forced a pullback in lending. Late payments, which declined to 9 percent from a record 9.1 percent in October, are likely to rise in part because of the 2007 class of maturing debt, according to Barclays Capital.

“These loans were done at the peak of the market,” said Julia Tcherkassova, a commercial-mortgage debt analyst at Barclays in New York. “They will have trouble refinancing today.”

Loans packaged and sold as bonds typically have terms of five or 10 years. Borrowers with five-year mortgages are finding it “much tougher” to repay, according to a Nov. 10 report from Wells Fargo Securities LLC. About 39.4 percent of five-year loans packaged into bonds were able to refinance in 2011 compared with 80 percent of 10-year commercial mortgages, the report said.

Restrained Lending

The extra yield investors demand to own top-ranked commercial-mortgage bonds rather than Treasuries has risen to 267 basis points from this year’s low of 178 basis points on April 26, according to a Barclays index. While the spread has narrowed from 323 on Oct 4, the widest since February 2010, increased volatility has curbed new lending, Tcherkassova said.

Elsewhere in credit markets, U.S. consumer borrowing rose in October to the highest in two years. Pacific Investment Management Co. is waiting for European central bankers to take more coordinated action to support markets before buying risky assets. Aegon NV is seeking as much as 2.2 billion euros ($2.95 billion) of loans to refinance debt maturing next year.

Bonds of Hewlett-Packard Co., the world’s largest maker of personal computers, were the most actively traded U.S. corporate securities by dealers yesterday, the day after its $3 billion offering, with 321 trades of $1 million or more, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.

Since the Palo Alto, California-based company’s offering, its $1.5 billion of 4.65 percent 10-year notes rose 2.1 cents to 101.8 cents on the dollar, Trace data show.

Consumer Credit Increased

Credit to consumers increased by $7.65 billion to $2.46 trillion, the most since October 2009, propelled by gains in non-revolving debt such as auto and student loans, Federal Reserve figures showed in Washington.

The data indicate consumers are relying more on credit to sustain spending as income gains fail to keep up with inflation and home prices drop. At the same time, increasing employment may be making Americans more willing to take on more debt heading into the holiday shopping season.

A benchmark gauge of U.S. company credit risk declined for an eighth day, the longest streak since the period ended Dec. 10, and is at the lowest level since October.

Company Risk Declines

The Markit CDX North America Investment Grade Index of credit-default swaps, which investors use to hedge against losses on company debt or to speculate on creditworthiness, fell 2.1 basis points to a mid-price of 119.6 basis points as of 4:43 p.m. in New York, according to data provider Markit Group Ltd.

In London, the Markit iTraxx Europe Index of 125 companies with investment-grade ratings decreased 5.3 to 166.8.

The indexes typically decline as investor confidence improves and rise as it deteriorates. Credit swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

Investors “should consider waiting for European and global policy makers to reach an “all in” moment before adding to risk assets,” Mark Kiesel, global head of corporate bond portfolios at Pimco, wrote in a report dated yesterday on the firm’s website. “Given a deteriorating outlook in Europe and the current absence of a more forceful action plan, the global economy is set to become increasingly vulnerable,” said Kiesel of Pimco, which runs the world’s biggest bond fund.

Leveraged Loans Drop

The Standard & Poor’s/LSTA U.S. Leveraged Loan 100 index snapped a five-day advance, decreasing 0.02 cent to 90.81 cents on the dollar. The measure, which tracks the 100 largest dollar- denominated first-lien leveraged loans, had climbed from 90.29 on Nov. 29.

Leveraged loans and high-yield bonds are rated below Baa3 by Moody’s Investors Service and lower than BBB- by S&P.

Aegon, the Dutch insurer that owns Transamerica Corp., is seeking a five-year facility which consists of a 1 billion-euro revolving credit line, and a second for as much as 1.2 billion euros and includes the option to issue letters of credit, said two people with direct knowledge of the deal, who declined to be identified because the terms are private.

In emerging markets, relative yields rose for the first time in three days, adding 7 basis points to 404 basis points, or 4.04 percentage points, according to JPMorgan Chase & Co.’s EMBI Global index. The measure has ranged this year from 259 on Jan. 5 to 496 on Oct 4.

Property Debt Gains

Top-ranked commercial property debt has returned 5.4 percent this year after gaining 11.6 percent in 2010, Bank of America Merrill Lynch index data show. U.S. company bonds returned 6.6 percent in 2011 and 9.5 percent the prior year.

Wall Street banks arranged about $27.2 billion in bonds backed by commercial mortgages this year, compared with $11.5 billion in 2010, Bloomberg data show.

JPMorgan and Wells Fargo analysts predicted from $45 billion to $50 billion in 2011 sales.

A record $232 billion was issued in 2007 when top-ranked commercial mortgage bonds paid a spread as narrow as 60 basis points, Bank of America Merrill Lynch index data show.

Lenders slowed the pace of writing new loans this year as volatile prices made it hard to gauge how much cash they would recoup in future bond sales, Barclays said.

Originations have increased “moderately,” S&P said in a Nov. 30 research note. The ratings company said it expected $5 billion in sales to be completed through the first quarter and $35 billion for all of 2012.

Forecasts range from Wells Fargo predicting $25 billion in issuance to UBS AG forecasting as much as $45 billion.

‘Kicking The Can’

The surge in 2007 loans coming due won’t necessarily lead to higher defaults as loan servicers choose to extend the debt rather than foreclose on borrowers, according to Alan Todd, a New York-based analyst at Bank of America.

“There is going to be more talk of kicking the can down the road, but that is not necessarily a bad thing,” Todd said in a telephone interview. “Expectations in 2008 and 2009 were squarely focused on faster disposals and fewer modifications and extensions than we have seen.”

About 9.2 percent of the 2007 Goldman Sachs and RBS deal has been transferred to a so-called special servicer, firms that handle troubled loans and negotiate with the borrower on behalf of bondholders, Bloomberg data show. About 4.8 percent is in foreclosure.

Overall the balance of delinquent loans in the roughly $600 billion commercial mortgage bond market peaked at $59 billion in April, and had fallen to about $55 billion as of November, according to a Dec. 5 report from Wells Fargo analysts led by Marielle Jan de Beur.

While the pace of borrowers falling behind on monthly payments may slow next year, the inability of property owners to refinance causes “serious concerns” for 2012, the Wells Fargo analysts said. Loans set to mature from the 2005 and 2007 vintages present a “much bigger challenge,” than previous years, they wrote.

--With assistance from Alex Kowalski in Washington, Franck Lestringant, Zeke Faux and John Parry in New York and Stephen Morris in London. Editors: Pierre Paulden, Alan Goldstein

To contact the reporter on this story: Sarah Mulholland in New York at

To contact the editor responsible for this story: Alan Goldstein at

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