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Critical to encouraging the proactive identification and management of problematic loans, a determination can be made that the loan is at significant risk of default “even if the loan is performing.” It would seem that borrowers and servicers are now free to negotiate modifications even if the problematic maturity is a ways off, provided that the change substantially reduces the risk of default and that the fiduciary and economic justification obligations placed on the special servicer in the Pooling and Servicing agreement are fully satisfied. Among the remedies for loans that pass these filters, changes to interest rates, principal write-downs and extensions of amortization schedules may stave off an otherwise inevitable deterioration in mortgage performance.


WILL THE NEW RULES MAKE A difference? In spite of the complex relationships and conflicting incentives of the stakeholders, the change does remove a disincentive—whether real or perceived—for the revision of commercial mortgages otherwise at risk of default. By mitigating concerns about the potential cost of managing distress in securitized mortgage portfolios, and in spite of the inevitable moral hazard and scalability problems that will arise, the adjustment has the potential to ameliorate outcomes for legacy CMBS.

But the change is hardly a panacea for the commercial mortgage market. To the extent that it mollifies concerns with regard to the challenges facing the commercial mortgage marketplace, the new procedure may even prove counterproductive.

After all, the majority of commercial mortgages in the United States are held on the balance sheets of banks. The current paralysis in the CMBS marketplace—except under the auspices of the Federal Reserve Bank and with the lubrication of low-cost credit—exacerbates the challenges faced by bank lenders in managing their legacy portfolios. Efforts to reignite securitization while managing the consequences of its previous excesses will undoubtedly benefit traditional lenders as well. 

But that benefit is unlikely to be so far-reaching that it will obviate the need for direct and timely intervention in support of the keystone of sustainable, long-term credit availability.

Sam Chandan, Ph.D., is president and chief economist of Real Estate Econometrics and an adjunct professor of real estate at Wharton.

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