A Commercial Mortgage-Backed Security Deal Succeeds

Last week, Bank of America completed just the second Commercial Mortgage-Backed Securities (CMBS) deal this year, and the first that doesn't take advantage of the Federal Reserve's Term Asset-Backed Security Loan Facility in over a year. This news is significant, as it's quite an accomplishment in a market that remains otherwise closed. While a good sign, the deal still indicates that investors are quite wary of CMBS.

Somehow, I missed this news until today. The Wall Street Journal has the most detailed report that I could find. The deal was a measly $460 million. That's significantly smaller than the deals the CMBS market was used to a few years ago, when they regularly exceeded $1 billion. So while there was some demand in the market, it obviously couldn't have been too robust.

The spread that investors required to purchase the deal was also quite wide. The AAA-rated bonds sold for 225 basis points over the benchmark rate -- even wider than Bank of America expected by at least 15 basis points, according to the Journal. And bear in mind, a few years ago no one could have imagined a three-digit basis point spread on AAA-rated CMBS.

What's most surprising about the deal is the collateral. Although I couldn't find any very specific details, the Journal says:

The securities are backed by a single, seven-year, fixed-rate loan to entities of hedge-fund manager Fortress Investment Group LLC. The loan is secured by payments flowing from 44 office and industrial properties in Florida, and cash flows related to a 351-mile railway corridor and land parcels adjacent to that corridor.

This unusual type of security--commercial-mortgage backed securities are typically backed by leases on properties such as offices and hotels--may also have pushed up the returns investors demanded despite the portfolio's otherwise conservative structure, with loan-to-value ratios averaging 50%.

I'm a little perplexed about why the first successful CMBS deal not to utilize the Fed program would be so non-vanilla. Although the Journal speculates that this might have made investors demand more spread, I'm not entirely sure. Investors might have liked that there was some diversification through non-commercial real estate driven cash flows that will result from the leasing of fiber-optic cables, land and billboards along that corridor. Heck, I might prefer that to Florida commercial real estate, even with 50% loan-to-value ratios. Of course, I suspect that the rating agencies also demanded a healthy amount of credit enhancement (cushioning for collateral losses) to achieve AAA-ratings.