The New CMBS

As of presale, the $400 million issue includes $323.5 million in Class A AAA-rated bonds. The issuer-reported debt-service coverage and loan-to-value ratios are 1.93 and 51.7 percent, respectively. These margins provide a much larger cushion for deterioration in cash flow and value than was the case for issues from the cycle’s upswing. Securing the debt, the issue is supported by 28 retail properties, ranging in size from just over 50 thousand square feet to just under 1 million. The observable vacancy rate of the properties varies from 0 percent to more than 25 percent.

As compared to the large fusion deals from years past, DDR1 is relatively much smaller, both in terms of its principal balance and the number of properties. These features lend themselves to a far more tractable analysis: The relative transparency of the deal lowers the investor’s own cost of information gathering and investment assessment, tempering his or her reliance on the ratings agencies and limiting the potential for untoward transfers of risk.

While conventional approaches to risk assessment will point to the risks of borrower concentration and sector concentration, the absence of diversity in these dimensions of DDR1 is among its strengths, at least as concerns its ability to attract investor interest. Without a large number of borrowers across a range of property types, the deal is less opaque, and information gathering is less costly.

Given that many of the mechanisms for assessing and communicating risk have been undermined by the last two years’ developments, the minimization of these sources of investor anxiety will be important in bringing future deals to fruition. This will be particularly true when investors are finally asked to take up deals that rely on the market’s own capacity to determine its equilibrium.

In facilitating DDR1, the parties to the deal have undoubtedly helped our industry take an important step forward. But characterizations of the deal as a breach of the securitization floodgates whereby all boats will rise are not likely to bear out. The principal impediments to the fusion deals and small-balance transactions that might alleviate some of the market’s most significant strains are de-emphasized by this highly facilitated, single-borrower, single-loan transaction where few real market-clearing mechanisms are at work.

This deal structure reflects that we have yet to address the challenges of agency, information asymmetry and incentive misalignments that have suffused some aspects of the securitization process. Until those challenges are taken up, we should not expect a resurgence of investor demand for deals that will alleviate broader credit constraints. Some industry participants have derided the most recent efforts by the House to address the problem, suggesting that we have a way to go.

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

The New CMBS