A leg in the stool

Commercial mortgage-backed securities (CMBS) have long been a popular financing technique for non-residential properties along the Gulf Coast, but analysts fret pending maturities and rules set to go into effect at the end of the year could dampen new lending.

“It's been a very important leg in the CRE financing stool,” says Jerry Gisclair, an executive managing director at commercial real estate services firm Colliers International Tampa Bay.
“CMBS deals bring competition to the lending space. It's been very prevalent here.”

But new rules will add an additional layer of complexity, Gisclair and others say.

The so-called “risk retention” requirements contained in the federal Dodd-Frank Act mandate that beginning in 2017, CMBS lenders keep 5% of all loans in-house. The new rules are intended to tighten underwriting standards and instill self-discipline among lenders, in the theory that lenders wouldn't want to hold on to loans that have a higher percentage of going south.

Critics maintain that the new rules will stymie CMBS lending, which like most securitized debt relies on securities being carved up and sold off in pieces to investors to mitigate and spread default risk.

During the first half of this year, markets nationwide reacted to the pending rules by clamping down on new lending, in Florida and elsewhere. CMBS lenders like JP Morgan Chase, Goldman Sachs, Citicorp, Bank of America and others appeared to take a wait-and-see approach.

At the same time, early 2016 increases in delinquencies from loans -- many of which were cut during the frothy 2006 and 2007 run-up in commercial real estate and lacked solid underwriting — caused borrowers and lenders alike to worry about a CMBS collapse or the inability of borrowers to refinance.

Those fears, while justified, haven't born out, however, as gains in rental rates and occupancy have largely been able to cover even poorly written debt.

Delinquencies crept up the first five months of 2016, from roughly 4% at the start of the year to 4.76% in July, according to Trepp. By comparison, the high-water mark for CMBS delinquencies came in July 2012, when 10.34% of all loans were delinquent.

Since then, however, delinquencies have leveled off and issuers seem more relaxed about the pending Dodd-Frank rules.

“Since July we've really seen the market (for CMBS) improve,” Gisclair says. “The market has a lot more confidence today in these securities than it did a year ago. We're seeing a lot of accelerated activity by CMBS clients.”

Nationwide, the numbers are huge. This year alone, more than $100 billion worth of CMBS deals are set to mature, according to CMBS research firm Trepp LLC, a leading tracker of the debt.

In all, some $36 billion in new CMBS has come to market in 2016, after $101 billion in 2015, says Chris Drew, a managing director for commercial real estate brokerage and finance company HFF, in Miami.

At $101 billion, CMBS accounted for more than 20% of all commercial real estate debt issued last year, Drew adds. By comparison, in 2007, such loans accounted for more than 50% of all debt issued on commercial properties.

In August alone, more than $4.4 billion in new loans were cut, pushed by investors eager to capture greater yields from bonds tied to income-producing properties than typical investments.

That same month, though, $1.25 billion worth of loans became newly delinquent, reviving investor fears.

Still, especially along the Gulf Coast, CMBS loans are often an advantageous way to finance property purchases.

“The Tampa Bay area is an ideal market for CMBS, all of the Gulf Coast is,” says Gisclair. “That's because life insurance companies and larger banks often look for bigger, more gateway markets to invest in,” he says. “They want New York, Chicago, Los Angeles. Many have second thoughts about Atlanta, much less Tampa, just because of size. Without CMBS, the capital air would get pretty thin real quick.”

In Florida, CMBS debt tends to gravitate to hotels, which comprise 40% of all such loans, followed by retail properties, industrial projects and then office buildings, HFF's Drew says.
CMBS debt often has built-in advantages to traditional bank or insurance company debt, too.

Such loans often tend to require less equity, and offer greater flexibility in terms of the size of the loan. In many cases, issuers are willing to provide 75% debt-to-equity, or loan-to-value (LTV), and cut loans from $3 million to as much as $200 million. Many larger banks and insurers, by contrast, have minimum loan requirement amounts of $5 million and cap out deals at 65% LTV.

And in down markets, often CMBS debt is the only kind available.

That's what Steven McCraney, head of Interstate 4 industrial developer McCraney Property Co., found when he needed access to capital in 2011 on properties he'd built in Stuart, Orlando and West Palm Beach.

“We were still technically in recession, and no one was lending,” he says.

But New York-based Jefferies was willing to finance McCraney through a CMBS loan and conclude a deal in 15 days. It was too good to pass up.

McCraney, which is planning a 1.3 million-square-foot speculative industrial project in Plant City, recently refinanced $65 million in debt on the same properties with BankUnited at a longer term and with a lower rate.

And while he's grateful the CMBS debt was available five years ago, he's happier borrowing from a more traditional lender.

“You go into a CMBS loan, and there's no flexibility with that loan, because it's more like a bond than a standard CRE loan,” McCraney says. “We don't plan to go that route again.”
McCraney isn't the only somewhat reluctant CMBS borrower.

Larry Feldman, president and CEO of Tampa-based Feldman Equities, which jointly owns a handful of downtown office towers in St. Petersburg and Tampa, agrees CMBS debt is often inflexible.

“I don't, as an individual borrower, prefer CMBS debt,” says Feldman, whose acquisition of the 22-story, 387,000-square-foot Wells Fargo Center in Tampa was financed with securitized debt.

“Sometimes the rates can be somewhat lower, but what happens is, because it's a series of bondholders, there's a bureaucratic process that goes with it,” he says. “Even the simplest minor loan modification can literally take months to complete.”

Critics of securitized debt note, too, that borrowers often face hefty pre-payment penalties on CMBS debt that are usually absent from more traditional loans.

Adding to the bureaucracy, because interest rates are affected by macro-economic dynamics, they can change suddenly.

“You often never know what your rate is going to be until you close on your CMBS loan,” Drew says. “It's a problem.”

Bondholders, too, often lose out if a tenant goes dark or exits leased space.

Such was the case with HSBC, which vacated 60,000 square feet in 10210 Windhorst Road, in the Pinebrooke Business Center in Tampa, earlier this year. A Monsey, N.Y.-based partnership used CMBS debt to finance its $9.2 million acquisition of the building in January 2007, according to Trepp.

There's no word yet on whether that exit will impact the larger CMBS loan that it's a part of, which is current and matures early next year, Trepp notes. Meanwhile, HSBC's former space is being marketed for lease, according to CoStar Group's LoopNet online information service.

For now, CMBS debt appears to be on solid footing overall — despite the pending Dodd-Frank-inspired regulations.

And with the market digesting the rules, some analysts contend the risk retention mandate won't have a tremendous impact after all.

“I don't see it affecting the overall market all that much, if at all,” says Donald Jennewein, a senior vice president at commercial real estate services firm CBRE Inc., in Tampa.

“What's impacting the market more than the rules themselves is the perception and uncertainty surrounding them.”

HFF's Drew agrees.

“My only concern at this point is in how exactly the risk retention is going to be adopted,” he says. “In general, I see CMBS as being one of the primary CRE financing vehicles in Florida through 2018. CMBS has had its share of volatility over the past several years, and it's always snapped back.”

- K.L. McQuaid