Market Data

CMBS Market Turmoil Opens Door for Commercial Banks

Tumultuous world financial markets sent the commercial mortgage-backed securities market into a tailspin in September and October 1998. Spreads for AAA-rated CMBS to 10-year Treasuries spiked to 200 basis points in October from less than 100 basis points in August. In November and December 1998, the AAA-rated CMBS spreads had settled into the 120-to-145-basis-point range.

Despite the travails of CMBS players, 15 of the 20 major conduits plan increased lending activity for 1999, according to a Commercial Mortgage Alert survey. Although Capital America, which originated $10.8 billion in conduit and large loans during 1998, is now gone, total conduit lending is expected to decline only $2.6 billion in 1999, from $67.1 billion in 1998 to $64.5 billion. However, these projections assume that the 1999 investor appetite for CMBS will be on par with 1998 levels.

The major change between 1998 and 1999 will be increased conduit pricing. Cutthroat competition for loan originations pushed profit margins down to the 2 percent level in early 1998. When spreads spiked in September and October, these razor-thin profit margins turned into losses when the origination yields were lower than the sell yields. (Conduits make their profits by selling or securitizing their loans at a higher yield than the yield at which the loans were originated.) This year, conduit lenders are targeting gross profits in the 4 percent range to provide a wider cushion for unexpected spread increases. The resulting higher loan pricing will add incentive for portfolio lenders, including banks, to compete with conduit lenders.

Commercial Bank Activity
Nationally chartered banks, FDIC-insured state-chartered banks, and foreign banks (collectively referred to as commercial banks) also have been very active in the commercial real estate lending business.

From 1994 through second-quarter 1998, commercial banks increased their commercial real estate mortgage holdings by $93.2 billion. During this same period, securitized mortgages (which include government-sponsored entity pools, private-mortgage pools, and real estate investment trust pools) increased by $139.2 billion. From 1994 through second-quarter 1998, securitized mortgages and commercial banks accounted for 41.9 percent and 32.5 percent, respectively, of the new commercial real estate debt issuance of $286.5 billion. In second-quarter 1998, commercial banks’ commercial mortgages totaled $467.5 billion and their securitized mortgages totaled $222.9 billion. Total commercial real estate debt is $1.2 trillion.

Securitized mortgages’ market share increased from 3.7 percent in 1989 to 18.3 percent in second-quarter 1998. Due to this surge, commercial banks’ market share declined from 41.4 percent in 1996 to 38.4 percent in second-quarter 1998. However, commercial banks’ total market share remained at more than double the securitized mortgages’ market share. With 38.4 percent of outstanding commercial real estate debt and 32.5 percent of all new commercial real estate debt issuance from 1994 through second-quarter 1998, commercial banks remain a significant player in commercial real estate.

When a bank originates a loan, it can sell/securitize the loan or keep it on its balance sheet. Commercial banks’ commercial real estate holdings of $467.5 billion represent the loans that are carried on their books. Loans that are securitized or sold to conduits are not included in the commercial bank loan total, but often are popular with larger banks because they generate lucrative origination and securitization fees. In 1999, the increased pricing structure of conduit-originated CMBS should provide banks with greater incentive to keep newly originated commercial real estate loans on their balance sheets.

George Green

George Green is a policy representative/senior economist for investment real estate at the National Association of Realtors in Washington, D.C.


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