Over the past six months, we’ve called attention to the potential of an inflection point at the nexus of widening interest rates and capitalization rates. We’ve also called attention to properties “priced to perfection” and “priced to disappoint.”
Now, is it time to worry about lenders, and a race to the bottom in underwriting deterioration? Moody’s Investors Service and Fitch Ratings think so, as each recently noted weakening in underwriting standards for conduit-originated commercial mortgage–backed securities. In fact, talk is that loan quality has slipped to “2005 levels,” the former “low-water” level for the industry before the recent financial crises and the Great Recession.
Moody’s noted that leverage reached a new high at the end of 2013; Fitch’s agreed and noted that every major underwriting metric had declined in 2013. For example, loan-to-value ratios increased 50 basis points to 103.5 percent during the fourth quarter of 2013; they are expected to increase to 105 percent in the first quarter of 2014. Fitch’s also highlighted the potential impact of pro-forma underwriting and loans with interest-only provisions.
Has underwriting discipline for securitized commercial mortgage loans declined as competition among lenders has increased? Probably to some degree; just as worrisome is that it’s “early days” in the current cycle. We expect to be reporting on this trend as the year goes by.
Monday’s Numbers
The Trepp survey for the period ending January 17, 2014, showed spreads continuing to narrow, coming in an average of 3 basis points compared with the previous survey period.
Asking Spreads over U.S. Ten-Year Treasury Bonds in Basis Points | |||||||
12/31/09 | 12/31/10 | 12/31/11 | 12/31/12 | 12/31/13 | 1/10/14 | 1/17/14 | |
| Office | 342 | 214 | 210 | 210 | 162 | 156 | 155 |
| Retail | 326 | 207 | 207 | 192 | 160 | 153 | 149 |
| Multifamily | 318 | 188 | 202 | 182 | 157 | 148 | 143 |
| Industrial | 333 | 201 | 205 | 191 | 159 | 150 | 148 |
| Average spread | 330 | 203 | 205 | 194 | 160 | 152 | 149 |
| 10-year Treasury | 3.83% | 3.29% | 0.88% | 1.64% | 3.04% | 2.88% | 2.84% |
The most recent Cushman & Wakefield Equity, Debt, and Structured Finance Group’s monthly survey of commercial real estate mortgage spreads, dated January 8, 2014, showed spreads coming in +/–5 basis points during the survey period.
Ten-Year Fixed-Rate Commercial Real Estate Mortgages (as of January 8, 2014) | |||
Property | Maximum loan-to-value | Class A | Class B |
| Multifamily (agency) | 75–80% | T +195 | T +200 |
| Multifamily (nonagency) | 70–75% | T +195 | T +205 |
| Anchored retail | 70–75% | T +205 | T +210 |
| Strip center | 65–70% | T +220 | T +230 |
| Distribution/warehouse | 65–70% | T +195 | T +210 |
| R&D/flex/industrial | 65–70% | T +210 | T +225 |
| Office | 65–75% | T +195 | T +210 |
| Full-service hotel | 55–65% | T +250 | T +275 |
| Debt-service-coverage ratio assumed to be greater than 1.35 to 1. | |||
Year-to-Date Public Equity Capital Markets
Dow Jones Industrial Average: –4.21%
Standard & Poor’s 500 Stock Index: –3.14%
NASD Composite Index (NASDAQ): –1.16%
Russell 2000: –1.69%
Morgan Stanley U.S. REIT Index: –0.03%
U.S. Treasury Yields | |||
12/31/12 | 12/31/13 | 1/25/14 | |
| 3-month | 0.08% | 0.07% | 0.05% |
| 6-month | 0.12% | 0.10% | 0.07% |
| 2-year | 0.27% | 0.38% | 0.34% |
| 5-year | 0.76% | 1.75% | 1.55% |
| 7-year | 1.25% | 2.45% | 2.20% |
| 10-year | 1.86% | 3.04% | 2.72% |
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