NEW YORK CITY—Notwithstanding a sluggish start to 2017, the year's first half nonetheless saw issuance of $34.4 billion in private-label CMBS, Kroll Bond Rating Agency reported earlier this month. That's a 27.8% increase from the year-ago period, and more than half of the year-to-date dollar volume was generated in May and June alone, according to KBRA.

Yet despite what S&P Global Ratings calls “active demand for CMBS” in a new report on structured finance, the report also contains the ratings agency's prediction that the year will finish with total volume basically flat from 2016. What's holding the industry back from breaking through the $100-billion barrier that has eluded it in recent years?

In simplest terms, a changing market. “CMBS have always been unique in that originators not only took time to create pools for issuance, but also made secondary markets that made them even more sensitive to the price movements of the financial crisis,” write S&P analysts James Digney and Deegant Pandya. “That price volatility created significant loan and bond losses for many CMBS originators, causing several to exit the sector and ensuring that the CMBS market that re-emerged in 2010 would have shorter origination warehouse periods.” The result, Digney and Pandya write, was “smaller CMBS pools with greater property type concentrations.”

The CMBS industry also adjusted some of its governance mechanisms, creating an operating advisor for each trust to oversee certain servicing decisions, the S&P analysts note. And then there was the Dodd-Frank risk retention rule that went into effect this past December, thereby adding “an additional level of scrutiny to the pools beyond the traditional first-loss buyers' review.”

Through these changes since the downturn, CMBS origination and demand has proven to be resilient, but Digney and Pandya write that the sector has lost market share to private portfolio lenders that can offer “greater servicing flexibility, and sometimes, greater proceeds.” Accordingly, while total outstanding US commercial real estate debt has grown to $3.9 trillion as of first-quarter 2017 from $3.2 trillion a decade ago, total outstanding CMBS issuance has declined to $628 billion from $738 billion during the same time period, write Digney and Pandya. “This translates into a decline in CMBS utilization as a share of total commercial real estate debt of 16%, down from 23%.”

This was supposed to be the year in which the circa-2007 chickens came home to roost, as CMBS underwritten at the previous cycle's greatest volume and loosest standards reached maturity. The expected tsunami of maturity defaults hasn't occurred; as an S&P Global Market Intelligence article noted earlier this month, “While many loans originated in '07 included assumptions of rapidly rising rents that never materialized, many of the worst loans have already defaulted.” Accordingly, some $60 billion of the $92 billion of CMBS expected to mature this year has already been refinanced.

Although S&P expects the loan maturity wave to continue dissipating this year, Digney and Pandaya also anticipate that new issuance volume will remain fairly stable, “based largely on the current pipeline, and signs of growth on the single-borrower side.” Meanwhile, private lenders continue to grow their market share of smaller and mid-sized commercial loans, thus providing “a potential headwind” for CMBS issuance. “This may change since regulators here and in Europe have started to notice the commercial real estate build-up at depository institutions and may take actions to discourage significant commercial real estate loan growth.

“All in all, an active third quarter, and then some slowdown into year-end as the maturity wave subsides, make our full-year forecast of $75–$80 billion roughly flat on a year-over-year basis from $76 billion in 2016,” write Digney and Pandaya. That's “in contrast to many other areas that we forecast to show significant growth” throughout the current year.

Instant Insights /

Why is CMBS Issuance Still Riding the Brakes?

Related Stories

Recommended For You