David Faber On Goldman CRE Write Downs And REIT Pain

David Faber discusses Goldman's real estate losses, and draws some conclusions about the upcoming pain for REITs. And yet, thanks to Goldman, which has been instrumental in upgrading and issuing stock for the REITs (and having a massive blow out quarter thanks in large part to its REIT underwriting activity), the sector is doing unprecedentedly well. Surely one has to wonder just what must happen at this point for people to wake up and realize what a ticking time bomb Commercial REITs are?

By the way, Jonathan, the Zero Hedge brain trust believes it is about time to downgrade your former Conviction Buy CBL soon (this is obviously not a threat or advice, investment or otherwise).

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CRE Distressed Auctions Coming, 90%-Off Minimum Bids

And so reality, and realty, starts to catch up (with commercial real estate at least, if not with the market). Bloomberg reports that Sperry Van Ness and Guardian Real Estate Services LLC will conduct auctions on various commercial real estate properties in California, Idaho and other western states. Among the properties to be auctioned off include an apartment complex on the Wilshire corridor and land in Rancho Cucamonga (famous for nothing, except being host to America's biggest liquor store Liquorama). The kicker: minimum bids will be over 90% off of peak market values. So if you are a tenant in some crappy mall in the inland empire and are paying roughly this much to SPG or GGP, you may want to consider just buying for the same money you would pay for one year's rent. Oh, and Merrill - all those REIT rent calculations... feel free to throw them out of the window.

For all interested strip mall tenants for whom Brazilian waxing provided to be a bumper cash crop last year, you can get info on the auction here.

(and no, this is not a sponsored post - it is useful to see what this kind of toxic garbage goes for these days). Sphere: Related Content

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Green Street Advisors On CRE "Nothing Is Trading; Prices Are Likely Down 35-40%"

As if anyone needed more confirmation just how bad commercial real estate is. Also includes a brief survey on the collapse of the SoCal regional market.



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Mike Kirby Of Green Street: "CRE Down 40%, To Drop More"

When REIT consultant Green Street Advisors talks, even the book pumpers listen. Bloomberg reports that Chairman and Director Of Research Mike Kirby, during his keynote address at the UCLA Economic and Real Estate Forecast Conference has noted that not only are CRE property prices down 35-40% already, but in fact have more room to drop. Zero Hedge will try to present any documentation as part of Kirby's speech if it become available, although at best it will merely confirm what every rational human being knows, and what the ML REIT research department dreads.
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CBRE: This Has NOT Been A Liquidity Crisis, But A Crisis Of Bad Credit

Maybe the administration will finally listen when one of their own potential bailout beneficiaries tells them the sad truth about the inevitable CRE implosion. Surprisingly, a very good summary of the CRE debacle straight out of CBRE Partners (with $36 Billion AUM, it is just 3x larger than Cohen And Steers). Speaking of... Where are those CMBS downgrades S&P: getting some phone calls from the administration lately? Oh wait - looks like there is a backstop, and it is called Realpoint - in case you guys dont play ball it seems you will simply be taken out of the picture: after all just two AAA ratings are required, and looks like Realpoint is about to sell their soul to the devil. (Please say it ain't true Realpoint). From the Reuters article:

S&P shocked the the CMBS market last week by advising that its new models, if adopted, would likely prompt ratings cuts on 95 percent of top bonds issued during the peak of the real estate cycle in 2007 and 85 percent of CMBS from 2006. S&P is mulling responses from a formal request for comment.

Some 50 insurers have contacted Horsham, Pennsylvania-based Realpoint over the last few days, saying, "you guys need to get approved" by the NAIC, Dobilas said.

"Realpoint acts as a trump card to any action that S&P takes," he said. "We don't perceive any problem" getting approved by the NAIC, he added.

The NAIC, which represents all of U.S. state and territory insurance regulators, affirmed that Realpoint's application has been received by NAIC's Securities and Valuations Office.

Anyway, from the CBRE piece:

• This has NOT been a liquidity crisis, but a crisis of bad credit
• The system of human incentives and checks and balances was poorly thought out across the board: securitizers, banks, rating agencies, bond buyers, real estate investors
• There was too much liquidity in the system, which led to rising prices, which led to relaxed underwriting standards

Also, Craig Schmidt should look at slide 6: "Valuing ’07 CMBS in an 8% Cap Environment: A Nightmare"

Must Read:

Publish at Scribd or explore others: Creative Writing Short Stories Research Math & Engineering Law & Government sigtarp neil barofsky

hat tip Rob Sphere: Related Content

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The "Special Servicing" Problem

Following up on a post from a few days ago in which the general skyrocketing of delinquencies was observed, today I present an overview of some of the largest properties and loans that have recently been put into that very unenviable category of "special servicing." According to Trepp, in April a record $4.4 billion in loans were transferred to special servicers, bringing the total to $23.8 billion. Transfers occur when master servicers hand off loans to special servicers once they notice signs of trouble. Special servicers then attempt to work out the problem with the borrower and return the loan to normal status or negotiate a payoff. If that approach fails, the loan is liquidated and the proceeds are forwarded to bondholders.

Manus Clancy of Trepp had the following green shoots dousing words to say about the current environment: "People are starting to talk about the economy bottoming out, but commercial real estate seems to be lagging the rest of the economy - we're seeing an acceleration in problems. April was worse than March, and March was worse than February. There's cause for concern that each month is getting worse."

In terms of specific segments within CRE, the most pain is still seen in the multi-apartment properties. Loans on multi-family complexes account for 15.2% of the total balance of outstanding CMBS transactions, their share of the special-servicing units is more than twice as high: 32.3%. On the other hand, office mortgages are the slowest to react to a deteriorating market, and are underrepresented in the special-servicing pool. Their share is 17.1%, versus 30.1 % in the overall CMBS universe. This is primarily due to the longer-dated nature of office leases and the corporate backing behind contracts: it would not look good if Fortune 500 companies made financial blogs with disclosure that they were in dire need of lease renegotiation. However, all this means is that the pain in office properties (and especially for office-focused REITs) will be that much more pronounced once the bottom really falls of the office rent market within the next year.

As an indication of some of the larger loans in special servicing, I present the following chart which breaks down the key properties by segment and by entry date into special servicing.



hat tip A B and Trepp Sphere: Related Content

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Some More CRE Venus Fly Trap Shoots

Between RealPoint and TREPP, any investor who has the reading comprehension of an 8 year old, the excel skills of a moderately well-trained primate and access to either or both of these databases, should be able to extract sufficient data that will promptly indicate just what commercial real estate is shooting up these days. Whatever it is, it sure ain't green. Also begs the question of just what qualifications one needs these days to be a REIT analyst for a major recently acquired investment bank (or for a real-estate focused asset manager that just happens to rhyme with colon and sneers, for that matter) if failure in either of the above categories is not grounds for flunking the application process.

Some more CRE charts coutresy of TREPP.





hat tip Pat Sphere: Related Content

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FDIC Sold $470 Million Commercial Loans In March At 46.4 Cents On The Dollar

When Zero Hedge previously demonstrated the results of FDIC commercial loan auctions and the discount the Federal Deposit Insurance Corporation was willing to take in order to offload commercial loans (both non-performing and performing) from its books, the result was very startling, specifically when considered in the context of the vocal endorsement Ms. Bair had given to the PPIP's Legacy Loan program and the expected commercial loan clearing levels in the 80s and 90s. At that time Zero Hedge concluded that it was very hypocritical for the FDIC to solicit banks in offloading loans, and for hedge funds to buy them at out of market prices (especially with taxpayer-subsidized guarantees for hedge fund purchases, compliments of the administration, Geithner and Bair).

The facts: in April, the average auction clearing price on the 331 loans the FDIC sold in January and February was 49.3%. In March, the number of loans FDIC sold in various auctions increased almost four-fold to 1,328, for a total of $470 million in book values of sales, with the average price dropping even more: the latest being at 46.4%. So much for a stabilization in the commercial real estate market.



And for those who claim that this price is distorted because it includes several non-performing loans, well - we have a control for that too. Compiling just the data from performing loans gives a great auction clearing price boost to... 51%.

Yes, the same FDIC which is advocating using taxpayer money to endorse and guarantee legacy loan sales as part of the PPIP in the 80/90 cents on the dollar range, continues selling performing commercial loans at about 50% off their book value. Ms. Bair's hypocrisy continues to amaze. Sphere: Related Content

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RealPoint Downgrades Hundreds of CMBS Classes, CRE Deterioration Accelerates

Commercial real estate powerhouse RealPoint has downgraded several hundred deals and CMBS classes in its April evaluation of the sector.

Publish at Scribd or explore others:

RealPoint also provides a comprehensive April CMBS delinquency report. A must read for both our readers and Merrill Lynch REIT analysts. Main charts extracted below. Most notable is the explosion in 90+ day delinquencies for March relative to April. In fact the deterioration is accelerating across all metrics: no second derivative green shoots anywhere in sight in CRE land.

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Deutsche Bank's Socialization Of Risk Culture Redux

Deepak Moorjani shares the below letter, which initially appeared in NYT's DealBook, but subsequently was taken down for reasons known, and now only a big gaping 404 hole remains in its place (http://dealbook.blogs.nytimes.com/2009/04/16/another-view-deutsche-banks-culture-of-risk/). Moorjani, who is currently involved in litigation with Deutsche Bank, shares his perspectives on his former firm's risk policies and the culture and reward structure that encouraged these, with Zero Hedge readers. The story is all the more relevant as it intersects a core theme for Zero Hedge, that of commercial real estate and the skewed risk/return investment perspective from the bubble years, which we may very well be returning to if the administration gets its releveraging ways.

When speaking about the banking sector, many people mention a “subprime crisis” or a "financial crisis” as if recent write-downs and losses are caused by external events. Where some see coincidence, I see consequence. At Deutsche Bank, I consider our poor results to be a “management debacle,” a natural outcome of unfettered risk-taking, poor incentive structures and the lack of a system of checks and balances.

In my opinion, we took too much risk, failed to manage this risk and broke too many laws and regulations.

For more than two years, I have been working internally to improve the inadequate governance structures and lax internal controls within Deutsche Bank. I joined the firm in 2006 in one of its foreign subsidiaries, and my due diligence revealed management failures as well as inconsistencies between our internal actions and our external statements.

Beginning in late 2006, my conclusions were disseminated internally on a number of occasions, and while not always eloquently stated, my concerns were honest. Unfortunately, raising concerns internally is like trying to clap with one hand. The firm retaliated, and this raises the question: Is it possible to question management’s performance without being marginalized, even when this marginalization might be a violation of law? Two years later, our mounting losses are gaining attention, and I offer my experiences and my thoughts in the hopes of contributing to the shareholder and public policy debate.

Background

Born and raised in Toledo, Ohio, I was infused with Midwestern values of hard work, individual responsibility, honesty, quiet integrity and fiscal prudence. After careers in New York City and Menlo Park, Calif., I moved to Tokyo in 2005 to pursue investments in corporate restructurings and distressed assets. At the time, the Japanese market offered unique opportunities.

I joined Deutsche Bank in 2006 to build an investment business within its commercial real estate lending operation, and I was generally surprised by the aggressive sales culture within our firm. While many people consider the banking sector’s problems to be caused by residential lending, I witnessed multibillion-dollar loan proposals for commercial property.

With funds provided at more than 90 percent loan-to-value, these loans were “priced to perfection” and assumed that property prices and rental rates would continue to rise. For perspective, a single billion-dollar commercial real estate loan is equivalent to 2,000 residential loans of $500,000.

In general, my colleagues are hard-working, decent people, but the system of incentives encourages people to take risks. I have seen honest, high-integrity people lose themselves in this cowboy culture, because more risk-taking generally means better pay. Bizarrely, this risk comes with virtually no liability, and this system of O.P.M. (Other People’s Money) insures that the firm absorbs any losses from bad trades.

As these losses have grown, taxpayers are being forced to absorb these losses. As an example, my firm recently received nearly $12 billion from American International Group (which has effectively been nationalized with $180 billion in taxpayer funds). Essentially, every American household sent my firm a check for $105. The reason for this payment: my firm bought credit default swaps from A.I.G. In plain-speak, we bought unregulated “insurance” from A.I.G. to cover losses from bad trades. What did taxpayers get in return?

Nothing. Taxpayers simply paid an I.O.U. triggered by our gambling losses. (Note: This $12 billion payment was more than 50 percent of our market capitalization at the time of its disclosure).

Solution

While shareholders (and taxpayers) are becoming angry, I think they should be furious. Our management has eviscerated the concept of moral hazard by systematically adopting pay schemes that reward excessive risk-taking despite its long-term implications. If governments have decided to socialize our losses, governments are implicitly saying that the banking industry is fundamentally sound. In effect, governments would be voting in favor of the status quo. In my opinion, the status quo does not work, and we need to address the core issues of structure and compensation. Capping executive compensation is a first step, but as a solution, it is insufficient.

While I am on the “inside” at Deutsche Bank, much of my career has been within partnership structures, and I continue to advocate a partnership-like structure for our firm. With collective liability, partnerships provide a proper alignment of incentives between management and its stakeholders. In a partnership, bonuses are paid from co-investments and profits, not revenues. Losses are shared, and these losses introduce an appropriate penalty for excessive risk-taking. If profits are overstated in one-year, the already-paid bonuses are clawed-back (returned to the partnership).

Conclusion

Our asymmetric incentive structure is fundamental to our problems. The question remains: Do we maintain the status quo and naively hope for better results, or do we begin to implement structural reforms in order to align the incentives? If taxpayers are forced to pay for the losses from bad trades, this socialization of risk adds to the moral hazard problem. This socialization of risk actually encourages more aggressive behavior in the future.

The call-option bonus structure has led to the ascendency of sales over risk management. Maintaining the status quo is not a smart bet, and we cannot afford to ignore the fundamental issues of structure and compensation. We need to introduce personal responsibility into the system, because accountability is glaringly absent. The collective liability aspect of partnerships achieves this goal; collective liability is the most powerful way to align incentives and encourage rational risk-taking.

As an employee and as a shareholder, I am doing my part to build a better firm. Unfortunately, the political landscape within our firm finds it difficult to assimilate any criticism of management’s leadership. To my fellow employees, I ask that you resist the incentives that reward groupthink. To my fellow shareholders, I ask that you implement the changes needed to address our asymmetric incentive structures.

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CMSA Tipping Its Hand Over General Growth Properties

After the CMSA, through the valiant efforts of one Chris Hoeffel, Managing Director at InvestCorp, got what it wanted in the TALF extension for CMBX from 3 to 5 years, but subsequently realized it is insufficient to package all existing loans and lower rated securities, it is now focusing on other, much more relevant aspects of the ongoing crunch in Commercial Real Estate (but don't think they are done with TALF, only a matter of time before the push for the new version is rekindled, see below). Their most recent concern: General Growth Properties and the troubling development of Bankruptcy Remote Entities potentially suffering substantive consolidation, a topic whose dramatic implications Zero Hedge has discussed previously.

The CMSA has apparently read Zero Hedge and is now sweating which buttons to push and reverse the course that GGP has taken, which as I speculated, could be very adverse not just for the bankrupt mall REIT but for the entire industry. Here is a press release the Commercial Mortgage Securities Association has issued:

CMSA Files Amicus Brief on General Growth Properties Bankruptcy

CMSA and the Mortgage Bankers Association on May 1, 2009 filed an amicus brief with the U.S. Bankruptcy Court, Southern District of New York, presenting information on the serious negative implications for commercial real estate finance in the remedies and positions pursued by General Growth Properties in its bankruptcy filings.

CMSA believes that the inclusion of special purpose subsidiaries in General Growth Properties bankruptcy filing in mid-April may threaten the fundamental principles of structured finance and securitization. Borrowers receive favorable loan terms based on lender, investor and rating agency reliance on isolation of the commercial property from the credit exposure of affiliates of the borrower. CMSA believes the strategy pursued by GGP violates this principle and, if upheld, would put into question the reliability of the rule of law in commercial finance.

CMSA strongly believes that the actions sought and positions taken by GGP are not supportable, violate fundamental legal and financial principles, and would be a tremendous blow to an already shaky economy and to federal and private-sector attempts to revive the commercial mortgage-backed securities market.

For a full copy of the joint amicus brief, click here.

And of course, any outcome that is not to the liking of the CMSA, will only provide them with more political leverage to readjust the terms of the TALF programs for Commercial Real Estate one more time. In fact Citi has already opined on this in a Roundtable on Securitized Products:

We believe Friday’s announcement was only an early expansion of TALF 1.0. We believe that the Fed and Treasury are still evaluating expanding TALF to secondary CMBS positions as part of the next phase of TALF expansion. An announcement is likely in the coming weeks.

So yes, looks like more money will be thrown at the problem. After all it is merely cotton with some green ink at this point.

CMSA amicus brief below:

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hat tip Alex Sphere: Related Content

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TALF v364.5, Now With Enhanced CMBS Dumping Provisions

Below we present the summarized term sheet of the most recent reincarnation of the TALF, compliments of the Federal Reserve.

Securitized Bonds: Created on or after 1/1/09

Underlying Loans: Created on or after 7/1/08

Collateral Type: AAA cusiped & cleared through DTC – required investment grade rating from minimum of 2 rating agencies

Haircut: 15% (85% leverage) for 5 year bonds to 20% (80% leverage) for 10 year bonds

Leverage Terms: Borrower may elect to index against either 3 or 5 year swaps

Spread: 100 bps

Bond Life: No more than 10 years

Prepayment: Par at any time

Early Collateral Prepayment: Flow’s through to pay down

Fed Rights: Throw out loans from prospective trusts (similar to b-piece) – NY Fed has right to engage 3rd party collateral monitors - influence structuring of hypothetical trusts (location-collateral type-etc.)

Amusingly, the Commerical Mortgage Securities Association (CMSA), better know as Chris Hoeffel (quite familiar to Zero Hedge readers) who has yet again reprised his role as the least conflicted person in the world through his positions as both Managing Director of foreign capital backed, CRE asset manager InvestCorp AND president of CMSA, had a canned, ready to print response to the Fed's actions (obviously somewhat priced into the market) which came out nanoseconds after the Fed's announcement and which we present below:

CMSA Applauds Federal Reserve on TALF Announcement

Lending Facility Extended to CMBS with Five-year Term

NEW YORK—May 1, 2009—Commercial Mortgage Securities Association applauds today’s announcement by the Federal Reserve Board to extend the Term Asset-Backed Securities Lending Facility to commercial mortgage-backed securities with an increased five-year term.

TALF is a central part of the U.S. government’s plan to encourage lending by restarting the market for various types of asset-backed securities. TALF recently became operational for consumer ABS with a three-year term for these assets.

The Federal Reserve in its statement today said that, starting in June, TALF loans with five-year maturities will be available for the June funding to finance purchases of CMBS, ABS backed by student loans, and ABS backed by loans guaranteed by the Small Business Administration.

“The inclusion of CMBS as eligible collateral for TALF loans will help prevent defaults on economically viable commercial properties, increase the capacity of current holders of maturing mortgages to make additional loans, and facilitate the sale of distressed properties,” the Federal Reserve said.

The Federal Reserve also indicated that up to $100 billion of TALF loans could have five-year maturities and that the FRB will continue to evaluate that limit.

“Extending TALF to CMBS with five-year terms is critical to providing liquidity and facilitating lending in the commercial mortgage market,” said Christopher Hoeffel, President, Commercial Mortgage Securities Association. “CMSA has strongly advocated for a term of five years to kickstart investor demand,” he said.

“A five-year term is more consistent with the longer-term nature of commercial lending and will provide more flexibility to borrowers as they navigate the current real estate cycle,” he said. “CMSA and its members applaud the government and policymakers for extending TALF to CMBS and extending the term to five years,” Mr. Hoeffel said.

Since late 2008, CMSA has been in regular discussions with policymakers and has outlined the benefits for extending TALF’s financing term to five years. Those discussions followed CMSA’s formal recommendation to the government that the Federal Reserve extend the loan term and that it make legacy commercial assets eligible for TALF.

While today’s announcement by the Federal Reserve extends TALF to newly issued CMBS with a five-year term, CMSA anticipates that policymakers will extend TALF to legacy assets in the weeks ahead, as previously stated.

Maybe Chris, the CMSA, and all those investors who have been buying CMBS hand over fist will soon reevaluate their optimism one they realize that the July 1, 2008 cut off date for eligible loans means that essentially the entire pool of distressed assets is completely ineligible for participation in even this brand new revision. In all honesty, ZH was hoping that the Fed would open the new TALF to all securitizations created concurrently with the advent of the wheel or discovery of fire, and a rating of Default or above would have been perfectly agreeable to Bernanke. The fact that the Fed still has not grasped the true magnitude of the problem is indicative that over the next 2 weeks we should all expect version 364.6 of the TALF once Chris scratches his head and realizes he still can't offload his garbage heap of bankrupt mall loans to taxpayers. For now, unwitting taxpayers are still safe from owning a bankrupt 30 retail outlet mall in the middle of the Yucon, purchased initially at 500% LTV and a DSCR of -10x, a -$1 billion reserve, and with pro forma stats upon conversion to high priced multi apartment units for eskimos, replete with with Arctic explorers-cum-doormen, husky shuttles and frozen igloo statues. Sphere: Related Content

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"The Great Leveraging" - Credit Commentary From TCW

Worth a flip through especially for some interesting (subjective?) perspectives on CRE


TCW on CRE - Free Legal Forms Sphere: Related Content

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Sam Zell: "Very Few CRE Financings In 2003-2007 Are Above Water"

Following up on the theme Zero Hedge discussed that the vast majority of commercial real estate backed loans have negative equity, real estate tycoon Sam Zell yesterday, in a presentation to the Milken Institute, said that "you have a scenario today where you have very few '03 to '07 financings that are above water. You have more debt than you have value." As owners of these properties have more debt than value, sales of properties over the next two to three years will be minimal as none of them would result in a deleveraging. Instead Sam Zell says "investors will buy distressed debt as these properties go into foreclosure."

Sam Zell's observation was in response to the disclosure by David Simon, CEO of SPG, that the REIT had attempted to purchase real estate from bankrupt rival General Growth Properties shortly before it filed for chapter 11. Per a Bloomberg article:

“They didn’t realize they were a distressed seller,” Simon said in a panel discussion at the Milken Institute Global Conference today in Beverly Hills, California. Few commercial real estate sales are being completed because sellers aren’t willing to take losses on their investments, Simon said.

This goes to the heart of the CRE problem: as no owners of negative equity properties are motivated to sell (why contribute equity to force a sale), existing properties will merely see continuing declining cash flows with no underlying property ownership exchanges, until either the loan defaults or the borrower (REIT xyz) files for bankruptcy as interest costs overwhelm cashflows. The last fact is the reason why Scott Minerd, CEO of Guggenheim partners said "Equity players have every reason to keep playing for time." That explains all the recent REIT dilution actions, who, together with any investors who "dollar cost average down" on their REIT positions, are merely hoping the U.S. government will be successful in reinflating the housing and rent bubbles yet again and property values rise above loan values, resulting in at least nominal equity value. For investors who like betting on those kinds of odds, Craps or even Black Jacks may be a better expression of risk appetite. Sphere: Related Content

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Filene's Basement To File Chapter 22

Another retail casualty about to hit, this time clothing chain Filene's Basement. Bloomberg cites two people familiar with the situation, who claim a Chapter 22 (that is a repeat 11 for the less than cynical) may be filed as soon as tomorrow.

Filene’s Basement, the century-old clothing chain, may seek bankruptcy protection this week, according to two people with knowledge of the plan.

A filing may come as early as tomorrow, said the people, who declined to be identified because the information isn’t public. There are several parties interested in buying assets out of bankruptcy, one person said.

Former Filene’s Basement owner Retail Ventures Inc. said April 21 that it transferred the unit to Buxbaum Group, a company that appraises and liquidates assets, for no proceeds. FB II Acquisition, the Buxbaum affiliate formed to acquire Filene’s Basement, said in a statement two days later that it was reviewing “all available” options for the chain, which sells discounted designer goods.

Buxbaum, based in Agoura Hills, California, is a liquidator and appraiser of retail and wholesale inventories, and provides turnaround, expansion and other consulting services.

The first time FB filed for bankruptcy was in August 1999, and was bought out of chapter by Retail Ventures predecessors, owner also of the DSW shoe chain. If Linens 'N Things is any indication, the ensuing liquidation will leave yet more strip malls with one less tenant. The company's retail locations are concentrated in the northeast, and at last count had about 25 soon to be vacant storefronts... This is yet another "investment highlight" for Commercial Real Estate and Merrill Lynch's REIT prospectuses, which has at least another $30 billion left to raise before the squeeze is over. Sphere: Related Content

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The One Trillion Commercial Real Estate Time Bomb

Imminently, Zero Hedge will present some of its recently percolating theories about some oddly convenient coincidences we have witnessed in the commercial real estate market. However, for now I focus on some additional facts about why the unprecedented economic deterioration and the resulting epic drop in commercial real estate values could result in over $1 trillion in upcoming headaches for financial institutions, investors and the administration.

When a month ago I presented some of the projected dynamics of CMBS, a weakness of that analysis was that it did not address the issue in the context of the CRE market's entirety. The fact is that Commercial Mortgage Backed Securities (or securitized conduit financings that gained a lot of favor during the credit bubble peak years for beginners) is at most 25% of the total commercial real estate market, with the bulk of exposure concentrated at banks (50%) and insurance companies' (10%) balance sheets.

But regardless what the source of the original credit exposure, whether securitized or whole loans, the core of the problem is the decline in prices of the underlying properties, in many cases as much as 35-50%. When one considers that with time, the underlying financings became more and more debt prevalent (a good example of the CRE bubble market is the late-2006 purchase of 666 Fifth Avenue by Jared Kushner from Tishman Speyer for $1.8 billion with no equity down), the largest threat to both the CRE market and the bank's balance sheet is the refinancing contingency, as absent yet another major rent/real estate bubble, the value holes at the time of maturity would have to be plugged with equity from existing borrowers (which, despite what the "stress test" may allege, simply does not exist absent a wholesale banking system nationalization).

The refinancing problem thus boils down to two concurrent themes: The first is the altogether entire current shut down in debt capital markets for assets, which affects all refinancings equally (for the most immediate impact of this issue see General Growth Properties which was not able to obtain any refinancing clemency on the bulk of its properties). The government is addressing this first theme through all the recently adopted programs that are meant to facilitate general credit flow. Readers of Zero Hedge are aware of our skepticism that these are working in any fashion, especially with regards to lower quality assets. The second theme is the much more serious and less easily resolved issue of the negative equity deficiency on a per loan basis, which is not a systemic credit freeze problem, but an underwater investment problem. This analysis focuses on the second theme. The reason for this focus is that there seems to be an unfortunate misunderstanding in the market that lenders will simply agree to roll the maturities on non-qualifying loans, and that the expected percentage of loans that need special lender treatment is low, roughly 5-10% of total loans. In reality the percentage of underwater loans at maturity is likely to be in the 60-70% range, meaning that refi extensions could not possibly occur without the incurrence of major losses for lenders.

In order to demonstrate the seriousness of the problem it is important to first present the magnitude of the refinancing problem. To quote from an earlier post as well as data from Deutsche Bank, and focusing on the CMBS product first, there are approximately $685 billion of commercial mortgages in CMBS maturing between now and 2018, split between $640 billion in fixed-rate and $45 billion in floating rate. The figure below demonstrates the maturity profile by origination vintage. As noted previously, vintages originated in the pre-2005 bubble years are likely much less "threatening" as even with the recent drop in commercial real estate values, the loans are still mostly "in the money".



As Zero Hedge has pointed out previously, the biggest CMBS refi threat occurs in the 2010-2013 period when 2005-2007 vintaged loans mature. These loans, originated at the top of the market, of which the Kushner loan for 666 Fifth Avenue is a brilliantly vivid example, have experienced 40-50% declines in underlying collateral values, and the majority will have material negative equity at maturity (if they don't in fact default long before their scheduled maturity). Of these loans, only a small percentage will qualify for refinancing at maturity.

At this point cynical readers may say: well even if all CMBS loans are unable to be rolled, it is at most $700 billion in incremental defaults. Is that a big deal - after all that's what the government prints in crisp, brand new, sequentially-numbered dollar bills every 24 hours (give or take). Well, the truth is that CMBS is only the proverbial tip of the $3.4 trillion CRE iceberg. To get a true sense for the problem's magnitude one has to consider the banks and life insurance companies, which have approximately $1.7 trillion and roughly $300 billion in commercial loan exposure.

Banks have $1.1 trillion in core commercial real estate loans on their books according to the FDIC, another $590 billion in construction loans, $205 billion in multifamily loans and $63 billion in farm loans. The precise maturity schedule for these loans is not definitive, however bank loans tend to have short-term durations, and the assumption is that all will mature by 2013, exhibiting moderate increases in maturities due to activity pick up over the last 2-3 years.

Adding the life insurance company estimate of $222 billion in direct loans maturing through 2018 per the Mortgage Bankers Association, increases annual maturities by another $15-25 billion.

In summation as presented below, the total maturities by 2018 are just under $2 trillion, with $1.4 trillion maturing through 2013.





Combining all sources of CRE asset holdings demonstrates the true magnitude of this problem. The period of 2010-2013 will be one of unprecedented stress in the CRE market, and a time in which banks will continue taking massive losses not only on residential mortgage portfolios but also on construction loan portfolios, the last one being a possible powder keg: Foresight Analytics estimates C&L loan losses at a staggering 11.4% in Q4 2008.

And the bad news continues: there is a risk that commercial mortgages will under-perform CMBS loans, and delinquency rates for bank commercial mortgages will be magnitudes higher than those for comparable CMBS. The figure below demonstrates the undperformance of bank commercial mortgages: as of Q4 2008 the delinquency rate for CMBS was less than half of bank CRE exposure.



Reflecting on this data should demonstrate why the administration is in such full-throttle mode to not only reincarnate credit markets at all costs (equity market aberrations be damned) but to boost credit to prior peak levels, explaining the facility in providing taxpayer leverage to private investors who would buy these loans ahead of, and at maturity. Absent an onslaught of new capital, there is simply nowhere that new financing for commercial real estate would come from and the entire banking system would crash once the potential $1 trillion + hole over the next 4 years become apparent, as there is less and less capital left to fill the ever increasing CRE cash black hole.

An attempt to estimate the number of loans that would not conform for refinancing, based on two key criteria of cash flow and collateral presents the conclusion that roughly 68% of the loans maturing in 2009 and thereafter would not qualify. The amount of refinanceable loans is important because borrowers will either be unwilling or unable to put additional equity into these properties. Instead borrowers will be faced with either negotiating maturity extensions from lenders or simply walking away from properties. And despite the banks' and the administration's promise to the contrary, loan extensions will not provide the way out (see below), meaning losses taken against CRE is only a matter of time.

For the purposes of the refi qualification analysis, the criteria that have to be met by an existing loan include a maximum LTV of 70 (higher than current maxima around 60-65), and a 1.3x Debt To Service Coverage Ratio (equivalent to a 10 year fixed rate loan with a 25 year amortization schedule and an 8% mortgage rate).



The simple observation is that nearly 68% of loans in the next 4 years will not qualify for a refinancing at maturity putting the whole plan to merely delay the day of reckoning indefinitely at risk of massive failure.

The underlying premise of maturity extension as a solution to a loan's qualifying problem is that during the extension period the lender is either able to increase the amortization on the loan by some means (i.e. increasing the interest rate and using the extra cash flow to accelerate the loan's pay down), or achieve value growth sufficient to allow the loan to qualify by the end of the extension period. As the equity deficiency for many loans is far too large to be tackled by accelerating the amortization over any period of time, and as for "value growth", with hundreds of billions in distressed mortgage building up over time via these same extensions (even if successful), the likelihood of property price appreciation is laughable: the flood of excess supply of distressed mortgage to hit the market is about to be unleashed.

Then there is the logical aspect: maturity extensions merely delay the resolution and push the problem down the road. And as for CMBS, the issue of extension may be dead on arrival - not only are CMBS special servicers limited to granting at most two to four year maturity extensions, but AAA investors are already mobilizing to stanch any more widespread extensions as a means of dealing with the refi problem.

And, at last, there is the view that the refi problem could fix itself, based on the argument that CRE cash flows are likely to rebound quickly as the economy begins to improve due to pent-up demand. This argument is nonsense: even if cash flows recover to their peak 2007 levels, values would still be down 30% as a result of the shift in financing terms. Ironically, it would require cash flows rebounding far beyond their peak levels to push values up sufficiently to overcome the steep declines. This is equivalent to predicting (as the administration is implicity doing) that the market will be saved by the next rent and real estate bubble, which the U.S. government is currently attempting to generate.

In this light, anything that the government can try to do, absent continuing to print massive amounts of dollars, is irrelevant. The equity market can easily go up indefinitely, short squeezes can be generated at will, TALF can see 10 new, increasingly more meaningless permutations, the administration can prepare worthless stress tests that are neither stressing nor testing, and talk up a storm on cable TV to convince regular investors that all is well, yet none of these will do one thing to provide the banks and CMBS borrowers with the massive capital they will need to plug the value gap either during a CRE loan's term or at maturity. The multi-trillion problem is simply too massive to be manipulated and is also too large to be simply swept under the carpet for the next administration and generation. It is inevitable that the monster hiding in the closet will have to be addressed head on, and the sooner it happens, the less the eventual destruction of individual and societal net worth (however, it still would be massive). Delaying the inevitable at this point is not a viable option: Zero Hedge hopes the administration realizes this, ironically, before it is too late.

Gratitude to Deutsche Bank for data. Sphere: Related Content

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Will TALF 3.0 Be Enough For A CRE Lazarus Act

Several reports came out today on CNBC and other MSM conduits about a brand new government effort which may consider expanding the already many-times revised TALF program to capture all sorts of commercial real estate securities, including the uber toxic ones, and extend the duration on TALF loans from the established 3 years to 5 or more years. First off it bears pointing out that as much as CNBC would like to make this piece of "news" into something phenomenal for the CRE market, it is not news, and was in fact reported by Bloomberg over a week ago. Just how many times can the market regurgitate the same piece of news and how many times can the same early am headline appear that xyz market is higher in early trading on recovery hopes. Doesn't the same story get old after a while? Apparently not - after all we are dealing with a market that has the attention span of tweaked out NYMEX trader on speed.

Aside from the fact the a CMBS lengthening may or may not occur, the (f)utility of such an action would be obvious upon further examination. The obvious reason why the CRE lobby is pushing for a 5 year period instead of 3, is because, as Zero Hedge pointed out, the bulk of CMBS and whole loan defaults are projected to really skyrocket in 2012/2013, just out of the current 3 year maturity horizon. Of course, purchasers of these TALF conduits are unlikely to be blind, retarded and illiterate at the same time and should be able to do the math for themselves (and if they can't, they can listen to Atlanta Fed president Lockhart, and if even that is too difficult they are more than welcome to peruse Zero Hedge analyses discussing the default cliff in CMBS). Lastly, the TALF has been a disappointment from the very beginning, as ZH speculated, and even if the 3-to-5 year extension is granted it is guaranteed to generate exactly 0 additional interest from potential investors (and probably negative interest, as with 3 years, at least the TALF loan matures inside the CRE default tsunami).

Now the real question is who is really behind the push for this amendment. As Bloomberg points out, the lobbying effort is spearheaded by one Christopher Hoeffel, who is president of the Commercial Mortgage Securities Association trade group. A cursory check of Chris Hoeffel, indicates that he is also a managing director at none other than Investcorp, a "leading provider and manager of alternative investment products, serving high-net-worth private and institutional clients." Investcorp, on its website indicates, that it currently has $13 billion in assets under management.

Chris is a managing director in Investcorp's real estate team, who joined "in 2008 and has senior level responsibility for sourcing, structuring, financing, underwriting, and closing new debt investments for the group. Chris joined Investcorp from JP Morgan / Bear Stearns & Co. where he was a senior managing director and global co-head of Commercial Mortgages."

It would likely be safe to assume that among the assets that Chris manages for his clients at Investcorp, the majority include commercial mortgages. Maybe Chris, Tim Geithner, or the Fed can provide a little clarity on just how much Investcorp would benefit if Chris (the non-profit guy) manages to convince the administration to provide these largely beneficial terms to CRE securities holders, and how much Chris (the for-profit guy) would benefit as a result.

But the plot thickens. Reading further down Investcorp's website one comes to the following blurb:

The success of the business is underpinned by Investcorp's unique placement capability in the six Gulf Co-operation Council countries of the Arabian Gulf, where we have focused on providing a high level of personal services to our investor base of high-net-worth individuals and institutions. Investcorp captures the growth dynamics of Gulf capital and of the alternative investment industry, combined with international best practice management disciplines.

As if there have not been enough rumblings that the bailout of the GSEs and of bank bondholders has been exclusively to the benefit of foreign investors, among them predominantly China and... Gulf sovereign wealth funds...

So let's recap: Gulf investors, commercial mortgage investments, JP Morgan, a trade group front... The list should probably necessitate some answers from someone before Geithner inevitably bends over backward and grants the TALF expansion, which, of course, like the current version of TALF 2.0 will be largely useless, but regardless U.S. taxpayers have a right to know who is conflicted in what and why.

As Chris was kind enough to personally submit a question to the FDIC regarding the yet another miserably planned wealth transfer initiative known as the PPIP (below), we can see that he himself is an inquisitive soul, and would not begrudge Zero Hedge readers the curiosity of explaining the motivations of his actions and his conflicts of interest (if any, of course).

Publish at Scribd or explore others: Research Magazines & Newspape magazines wills and trusts

Sphere: Related Content

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Duke Realty Goes For The New Equity-For-Secured Debt Bait And Switch

Yet another troubled REIT Duke Realty has jumped on the Kimco, ProLogis, etc. Merrill Lynch/BofA orchestrated mass dilution bandwagon, and investors, some confused about what the hell is going on, others like Cohen and Steers, are more than happy to join the great pump and dump even as all REITs face imminent debt maturities, declining lease rates, tenant bankruptcies, and generate less and less cash flows to satisfy their respective debt loads, let alone dividend payments.

As for use of proceeds: no surprise there - pay off amounts outstanding under the company's $1.3 billion JP Morgan and Bank Of America arranged credit facility (yes, observant reader, the very same companies who are underwriting this travesty). This is exactly the kind of "deal" that Zero Hedge reported about when Kimco raised equity, however without the same day upgrade by Merrill analysts. The Stardust line on Sakwa's upgrade to Buy is 4 days. We take the under.

Here are the facts: Duke has priced 65.4 million shares, and will likely also place the 9.8 million share green shoe, once Merrill analyst Stephen Sakwa goes unrestricted and changes his opinion on the company from neutral to buy, although that condition is neither sufficient nor necessary (we jest, everyone knows that Steve Sakwa will evaluate the company on it's own standalone merits). The 75 million new total shares will be a 50% dilution of the total existing shareholder base of 148 million. But, as Merrill has likely pitched to both the management team and to investors: it has worked so far, no reason why it should stop. This is the same reason bulls give to explain the market run up. Nobody needs to be bothered with such trivia as fundamentals, cash flow, FFO, EPS, and dilution. The game of greater fool is on right now like it has never been, and if big funds like abovementioned Cohen and Steers manage to get a quick bump up in their March P&L, so much the better.

To simplify what is going on here, follow the buck:

Underwriting Banks -> New Equity Investors -> Company -> Underwriting Banks Who Are Also On The Hook For The Credit Facility: the buck stops here, compliments of the fresh money.

Clinically simple and elegant. Ignore that GGP has filed for bankruptcy. Rinse and repeat.

And, yes, it will work, until the potato gets too hot... just like all other doomed REITs, just like the market.

Ironically, now that pretty much all the REITs will receive new equity money, the whole thesis that the strong will acquire the weak flies out of the window, and instead of excess capacity getting removed from the market (for a good case study of massive excess capacity, please see the vivid example of Ainsworth Lumber, Norbord and Louisiana Pacific in the OSB market), it will just stay there indefinitely, destroying any pricing power the REIT "giants" such as BXP and SPG could hope to generate. Compliments of Merrill Lynch, irrational exhuberance and a 110x trailing P/E.

For perspectives on when the CRE bubble will finally crash and burn, read here, here and here. Sphere: Related Content

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CRE Performance By Property Type

prepared by Lehman bros.

In other CRE news, EuroHypo says GGP press release disclosing it is owed $2.6 billion by the bankrupt mall operator is "not correct". Gotta love when two multibillion enterprises (well, one is not so multibillion any more) publicly accuse each other of lies.

Lastly, Calculated Risk concludes CRE is getting crushed based on a 12.5% downtown vacancy rate, contrary to the ridiculous claims of GGP COO who looked like he was three shakes away from a full epileptic fit earlier on CNBC. Sphere: Related Content

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The Imminent Disinformation Schism

With articles like this coming out of Time magazine, it is inevitable that in the immediate future, the United States will be split into two partisan camps. However, this will not be the traditional schism of republicans vs. democrats, contrary to Mr. Barney Frank's attempt to start ideological partisan warfare. The real split will be of naive, easily-manipulated, small-time mom and pop investors, who only care about looking at their daily yahoo finance screens and 401(k) statements, seeing more black than red, and only focusing on what happened in the immediate past, and the forward looking taxpayers, who see the upcoming budget deficit fiasco, the social security ponzi scheme, the Medicare/Medicaid debacle, the ridiculous underfunding in public and corporate pension funds, the rising city and state taxes, the shuttering factories, the rising unemployment, the plummeting American production base, the "seasonally" upward-adjusted economic data coupled with consistently downward revised prior economic releases, the increasing savings rate and the multi trillion discrepancy in consumer purchasing power. The taxpayers are becoming angrier and angrier at the net present value destruction of future opportunities of being a U.S. citizen, while investors cheer every piece of information (whether or not supported by facts) that provides a push to their current net worth, ignorant of what this may mean for the future. There will come a point where this schism reaches a boiling point, in the meantime, the paradox is that so many of the taxpayers are also investors, who are caught in a tug of war with themselves on what the proper response to the crisis should be: happy as a result of bear market rallies, or sad when they put the facts into perspective.

Speaking of facts, Time contributing author Douglas McIntyre may have considered presenting some to justify his thesis that the "the great banking crisis of 2008 is over." Pointless regurgitation of secondary viewpoints serves no purpose in the mainstream media, especially not in formerly reputable mainstream media such as Time (Zero Hedge's subscription is running out with no plans for renewal). It is even worse when the MSM represents as "facts" the disinformation by banks, who claim that the downward inflection point has been reached and ignore the full context: a much weaker mark-to-market methodology, the FDIC and SEC aiding and abetting wholesale "pennies on the dollar" blue light specials of bankrupt banks such as Wachovia and Washington Mutual, taxpayer funnels such as AIG being used to pad the top and bottom line, a financial system balance sheet which has over 70% of its assets guaranteed by the Fed and the Treasury, and lastly, a spike in commercial real estate deterioration to unprecedented levels. Mr. McIntyre's article is childish and unsubstantiated to the point of generating derisive laughter from his readers. Then again, a casual glance of his self-description in Seeking Alpha is enough to put his opinion into perspective: Mr. McIntyre "knows technology cold, has a sharp understanding of what's priced-in to [sic] stocks, and writes extremely well (as you'd expect)." How a self-ascribed technology specialist (who writes "so well" that he makes grammatical mistakes in the very same sentence making that claim) ends up stating "the financial crisis is over" is beyond Zero Hedge's meager attempts at comprehension. What Zero Hedge is not beyond, however, is presenting the facts and not perpetuating the disinformation fallacy.

The cold facts - "When you stare at the abyss, the abyss stares back at you."

Why is everyone so afraid to stare at the proverbial abyss? Readers of Zero Hedge know all too well, about my fascination with the economic fundamentals, and my desire to expose the real abyss in all its deep glory.

I dare anyone: McIntyre, Kudlow, Geithner, Obama, to look at the chart below and tell me we are in a V shaped recession. Yes, ISM may be bottoming (at record low levels which is not indicative of much), and unemployment may soon be bottoming (it has not, yet somehow the market believes it is just a matter of time), however one look at the chart of accelerating commercial real estate delinquencies and what they mean for the multi-trillion commercial real estate market should stop any V-recovery fans dead in their tracks.



I will present some more factual glances of the abyss, compliments to the good folk at Realpoint.

Through the February 2009 reporting period, the delinquent unpaid balance for CMBS increased by a substantial $1.2 billion, up to a trailing 12-month high of $11.99 billion. Overall, the delinquent unpaid balance grew for the sixth straight month, up over 244% from one-year ago (only $3.48 billion in February 2008) and now over five times the low point of $2.21 billion in March of 2007. While a slight decline was noted in the 30-day and 60-day delinquent loan categories, the distressed 90+-day, Foreclosure and REO categories grew for the 15th straight month – up over 216% in the past year. This increase took place despite another $53.9 million in loan workouts and liquidations reported for February 2009 across 20 loans. Ten of these loans at $19.1 million, however, experienced a loss severity near or below 1%, most likely related to workout fees, while the remaining 10 loans at $34.8 million experienced an average loss severity near 46%. As additional pressures are placed on special servicers to maximize returns in today’s market, loss severities are expected to increase while liquidation activity is expected to slow further as fewer transactions occur. This would be the result of reduced or distressed asset pricing, lower availability of funds, and increased extensions of balloon defaults through the end of 2009 and into 2010.

The total unpaid balance for all CMBS pools under review by Realpoint was $837.78 billion in February 2009, down from $842.8 billion in January. Both the delinquent unpaid balance and delinquency percentage over the trailing twelve months are shown in the chart above and the one below, clearly trending upward for the timeline.



The resultant delinquency ratio for February 2009 increased to 1.431% from 1.281% one month prior. Such ratios above 1% reflect levels not seen in since April 2005. What is more concerning, however, is that the delinquency percentage through February 2009 is more than three times the 0.399% reported one-year prior in February 2008. The increase in both delinquent unpaid balance and delinquency ratio over this time horizon reflects a slow but steady increase from historic lows through mid-2007.

Assumptions based on three-month historical data:

• Over the past three months, delinquency growth by unpaid balance has averaged roughly $1.65 billion per month, while the outstanding universe of CMBS under review has decreased on average by $3.5 billion per month from pay-down and liquidation activity.
  
• If such delinquency average were again increased by an additional 25% growth rate, and then carried through the end of 2009, the delinquent unpaid balance would top $32 billion and reflect a delinquency percentage slightly above 3.8% by December 2009.
  
• In addition to this growth scenario, if one adds the potential default of the $3 billion Peter Cooper Village / Stuyvesant Town loan and the $4.1 billion Extended Stay Hotel loan, the delinquent unpaid balance would top $39 billion and reflect a delinquency percentage near 5% by December 2009.

"V-shaped recovery" indeed. But let's continue:

Special servicing exposure has also been on the rise, having increased for the 10th straight month to $17.11 billion in February 2009 from $14.38 billion in January 2009 and only $12.78 billion in December 2008. The corresponding percentage of loans in special servicing has also increased to 2.04% of all CMBS by unpaid balance, up from only 0.50% in both February 2007 and 0.67% February 2008. The overall trend of special servicing exposure since January 2005, by both unpaid balance and percentage, is presented in Charts 3 and 4 below.



Realpoint's default risk concerns for the more recent 2005 to 2007 vintage transactions relative to underlying collateral performance and payment ability are more evident on a monthly basis. Both the volume and unpaid balance of CMBS loans transferred to special servicing on a monthly basis continues to raise questions about underlying credit stability in today’s market climate for these deals, as evidenced by attached table. An additional 117 loans at $2.28 billion issued from 2005 through 2007 were transferred to special servicing in February 2009, mostly (but not only) for delinquency. Such figure reflected 71% of the current month’s transfers and 13% of total special servicing exposure in February 2009. Furthermore, over 51% of delinquent unpaid balance through February 2009 came from transactions issued in 2006 and 2007, with over 27% of all delinquency found in 2007 transactions. Extending a review to include the 2005 vintage, an additional 16% of total delinquency is found meaning over 67% of CMBS delinquency comes from the 2005 to 2007 vintage transactions. The chart below shows the increased delinquent unpaid balance relative to these three vintages over the past six months, clearly reflecting the increasing trends highlighted in recent months.

Throughout 2009, it is expected to see high delinquency by unpaid balance for these three vintages due to aggressive lending practices prevalent in such years. Also some loans from the 2008 vintage are expected to show signs of distress and default in cases where pro-forma underwriting assumptions fail to be met at the property level.

Focusing on deals that have seasoned for at least one year, the investigation reveals the following:

• Deals seasoned at least a year have a total unpaid balance of $822.94 billion, with $11.661 billion delinquent – a 1.42% rate (up from 0.5% six months prior).
  
• When agency CMBS deals are removed from the equation, deals seasoned at least a year have a total unpaid balance of $793.3 billion, with $11.656 billion delinquent – a 1.47% rate (up from 0.52% six months prior).
  
• Conduit and fusion deals seasoned at least a year have a total unpaid balance of $701.2 billion, with $10.78 billion delinquent – a 1.54% rate (up from 0.54% six months prior).

Other concerns/dynamics within the CMBS deals monitored which may affect the overall delinquency rate in 2009 include:

• Balloon default risk related to upcoming anticipated repayment dates (ARD's) or term maturity from highly seasoned transactions for both performing and non-performing loans coming due in the next 12 months that may be unable to secure adequate refinancing due to current credit market conditions, lack of financing availability, or further distressed collateral performance.
  
• Refinance and balloon default risk concerns from floating rate transactions, as many large loans secured by un-stabilized or transitional properties reach their final maturity extensions, or fail to meet debt service or cash flow covenants to exercise such extensions.
  
• Aggressive pro-forma underwriting on loans with debt service / interest reserve balances declining, more rapidly than originally anticipated, on a monthly basis.
  
• Further stress on partial-term interest-only loans that begin to amortize during the year that already have in-place DSCRs hovering around breakeven.
  
• The unpaid balance related to loans underwritten in the past three years with DSCRs between 1.10 and 1.25 is very high, and any decline in performance in today’s market could cause an inability to make debt service requirements.
  
• A decline in distressed asset sales or liquidations as traditional avenues for securing new financing is becoming less available.
  
• Additional stress on both the retail and lodging sectors as consumer spending declines and the U.S. economy weakens.

Monthly CMBS Loan Workouts and Liquidations


The rate at which liquidated or problematic CMBS credits are replenished by newly delinquent loans remains a concern, especially regarding further growth to Foreclosure and REO status (evidence of additional loan workouts and liquidations on the horizon for 2009). Through February 2009, newly reported CMBS delinquency continued to outpace monthly liquidations by a very high ratio, raising concerns for further deterioration in the market.

In February 2009, 10 loans for $34.8 million experienced an average loss severity near 46% - a clear reflection of true loss severity in today’s credit climate. Higher levels of loss severity will be the norm in 2009 for those loans that experience a term default where cash flow from operations is not sufficient to support in-place debt obligations.



Since January 2005, over $7.52 billion in CMBS liquidations have been realized, while 44 of the trailing 49 months have reported average loss severities below 40%, including 21 below 30%. While average loss severity increased slightly for the 12 months of 2007 when compared to 2006, monthly loan liquidations by unpaid balance declined significantly in 2007 when compared to 2006 (by 43% year-over-year). Liquidations in 2007 totaled $1.094 billion at an average severity of only 32.8%. Liquidations in 2006 totaled $1.93 billion at an average severity of only 30.2%, while 2005 had $3.097 billion in liquidations at an average severity of 34.2%.

Comparison by property type:

• The highest loss severities in 2006 were found in healthcare (55%) and industrial (34.5%) collateral; multifamily collateral remained highest by balance before liquidation ($606.7 million), but reported the lowest severity (24.5%).
  
• The highest loss severities in 2007 were found in industrial (50%) and healthcare collateral (44%); multifamily collateral was again highest by balance before liquidation ($356 million), but reported the fourth lowest severity (32.5%).
  
• The highest loss severities in 2008 were found in mixed-use / other (36%) and multifamily collateral (31%); multifamily collateral was again the highest by balance before liquidation ($576.97 million).

Future Workouts – Delinquency Categories

The total balance of loans in Foreclosure and REO increased for the 16th straight month to $2.696 billion from $2.39 billion in January 2009, despite ongoing liquidation activity. These figures had declined steadily for some time through mid-2007, reflective of expedited loan work outs, but continue to be replenished with new loans due to aggressive special servicing workout plans. The chart below also shows the rapid growth of loans reflecting 30-day delinquency in the later half of 2008, transitioning rapidly into more distressed levels on a monthly basis, thus supporting the use of 30-day defaults as an early indicator of workouts to come in 2009.



Property Type

• Multifamily loans remained a poor performer in January 2009, with over a 2.5% delinquency rate (up from only 0.9% in January 2008 – over a 177% increase).
  
• Multifamily loans also are the greatest contributor to overall CMBS delinquency, at 0.51% of the CMBS universe and over 35% of total CMBS delinquency (but down slightly for the second straight month).
  
• By dollar amount, multifamily loan delinquency is now up by an astounding $3.38 billion since a low point of only $903.3 million in July 2007.
  
• As shown in Chart 7 below, multifamily, retail, office and hotel collateral loan delinquency as a percentage of the CMBS universe have clearly trended upward since mid-2008.
  
• Only seven healthcare loans at 0.017% of the CMBS universe are delinquent, but such delinquent unpaid balance reflects 5.8% all healthcare collateral in CMBS.
  
• As a percentage of total unpaid balance, year-over-year delinquencies for all categories increased by triple digits from February 2008 to February 2009.
  
• In 2009 retail delinquency will increase substantially as consumer spending suffers from the overall weakness of the U.S. economy. Store closings and retailer bankruptcies will continue throughout the year.
  
• In addition, the hotel sector will likely experience an increase in delinquency as both business and leisure travel slows further.
  

Geography

• The top three states ranked by delinquency exposure through January 2009 changed as California surpassed Michigan in third position. This remained the same through February 2009. Together with Texas and Florida, these three states collectively accounted for 30% of CMBS delinquency.
  
• Previously in November 2008, New York had passed Michigan and moved into third place in the rankings, following the reported delinquency of the Riverton Apartments loan at $225 million (CD07CD4). New York is now in the fifth position when ranked by delinquent unpaid balance.
  
• The 10 largest states by delinquent unpaid balance reflect 62% of CMBS delinquency, while the 10 largest states by overall CMBS exposure reflect 53% of the CMBS universe.
  
• The state of Texas remains a major concern at over 11.5% of CMBS delinquency, concentrated within the Houston and Dallas-Fort Worth, MSAs (almost 9% of CMBS delinquency); however, such MSAs reflect a fairly low percentage of total exposure in their respective MSAs (at less than 3.4%).
  
• Four MSAs topped 4% of CMBS delinquency in February 2009 (up from three a month prior).
  
• The 10 largest MSAs by delinquent unpaid balance reflect 37% of CMBS delinquency, while the 10 largest MSAs by overall CMBS exposure reflect 34% of the CMBS universe.

...And the facts go on and on and on... yet not one of them is mentioned in McIntyre's "analysis".

Commercial real estate is nothing more than a proxy for the intersection of the two historically core driving forces in the U.S. economy: real estate values and business conditions. And as the facts above indicate, the deterioration is only starting to pick up.

But what about all the stimulus programs skeptics will ask? The bail out packages? The constant funneling of taxpayer money into every underperforming segment of economy?

The truth is that the more taxpayer money is dumped to try to fill the abyss, it may become marginally shallower, but only at the expense of it geting wider. At some point soon (if not already), the U.S. economy will be unweenable from the trillions and trillions of taxpayer subsidies all the while it becomes more indebted to both its investors and taxpayers, further exacerbating the abovementioned paradox (presumably not without a motive). As the multi-trillion CRE crash continues to deplete the left side of the financials' balance sheet with an exponentially growing pace (and I have not even touched on the credit card topic), the banks will be left scratching their heads what accounting rules to bend, which insurance companies to implode and get another AIG-like piggybank, how to break REG-FD more and more creatively with select memo leaks, how to manipulate the market, and how to make the Tsy curve becomes even more upward sloping with the compliments of the Fed and the Treasury. In the meantime the disinformation rift between the American taxpayers and investors will keep growing until inevitably, one day, it will escalate to the point where empty promises on prime time TV by the administration's photogenic representatives will not suffice, and real actions that benefit future American generations will be demanded... What happens after I have no idea.

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