Mortgage Securities: New Life?

In a transaction that may be the beginning of a new life for real estate financing in the form of commercial mortgage backed securities (CMBS), Developers Diversified Realty Corporation (DDR) in November 2009 sold $400 billion of debt backed by shopping centers under TALF, the Term Asset-Backed Securities Loan Facility, in an offering underwritten by Goldman Sachs Group Inc. DDR was able to sell $323 billion of five-year securities rated AAA at a premium of only 1.4 percentage points over the five-year interest rate swap benchmark. The yield to investors was 3.807%. In addition, two smaller non-TALF issues rated AA drew strong interest; these had yields of 5.75 percent and 6.25 percent.

However, many investors did not take advantage of the TALF loans, preferring to pay cash for the securities. According to J.P. Morgan Chase and Co. other AAA mortgage-backed securities with the same maturity were priced at about 3.5 percentage points more than benchmarks. This still is a significant drop from the 13 percentage points over benchmark that was the case at the beginning of the year.

DDR owns 670 shopping centers in the United States and abroad and originally had hoped to raise a total of $550 million. According to a Reuters report, as much as $70 billion in commercial mortgages are due to be refinanced in the next two years. By one estimate, defaults could be as much as $250 billion in commercial real estate losses in the course of the refinancing.

Looking Ahead

The crucial question is whether this transaction is a reflection of a new market for securitization or whether it is an anomaly. The transaction was financed at about 55 percent of loan-to-value, which contributed heavily to its success. The question to be answered is whether the DDR success is the harbinger of future CMBS deals at loan-to-value-ratios necessary to finance loans coming due in 2010.