CWCapital Markets Update - Fourth Quarter 2018

In This Issue

This CWCapital Markets Update focuses on the fundamentals and trends affecting national commercial real estate debt markets. We synthesize and present information gathered from various industry research, public resources, and our own research.

  • Economy: Continued positive employment and economic trends, but deficits growing quickly
  • Cyclical highs in property prices, volatility, and negative fundamentals
  • Feature: CRE CLO Market – Tiering and Pricing
  • Three trends we are watching


This quarter, we feature a review of current trends in the US CRE CLO market. At over $13bn via 25 deals, 2018’s market issuance was more than double that of 2017. With activity and volume this robust, it is critical for investors to evaluate basic collateral risk, credit quality, CLO structural features, and to benchmark their required yields accordingly.

For the complete commentary, stats and graphs:

The Economy

  • The December jobs report noted that the economy continues to grow with 312,000 jobs created in December. Employment in the professional and business services category again led with 583,000 jobs created over the past year, leading both healthcare (346,000), and manufacturing (284,000). Retail added only 92,000 jobs.
  • The unemployment rate rose to 3.9%, still among the lowest level in decades. The participation rate ticked up slightly to 63.1%. For December, BLS noted that unemployment dropped in 64% of all MSAs year over year, with 89 MSAs at <3.0% unemployment and 3 over 10%. Ames Iowa, Iowa City, parts of Utah and New Hampshire MSAs have <2.0% unemployment, while El Centro CA, Yuma AZ, Puerto Rico, and Ocean City NJ have > 10%.
  • The 10-year US Treasury yield at 2.67% tightened almost 50bps since early November. Much of the tightening was related to overall concerns about equity prices, trade, and other uncertainty. The 2/10 spread is 17bps, continuing the now long-term flattening trend. Historically, inverted yield curves can signal an economic slowdown. The US budget deficit rose 17% in 2017 to $779 bn and may grow an additional 15% reaching $897 bn in 2018 according to a CBO report. Combined with lower tax revenues, rapid increases in the deficit, and trade tensions, we remain concerned about rising rates and real estate price weakness on the horizon.

Property Markets

  • Effective rent growth – National average now showing a stronger 3.27% one year growth rate, in line with the 5 year average. Multi-family rents grew 4.3% for the year, while retail growth continues to lag at 2.1%.
  • Vacancy rates – For the trailing 1-yr period, vacancy rates increased for all property types, (20 to 120bp). Although deliveries grew in all categories (except retail) over 2017’s pace, absorption for all asset classes was less than 1.0x. This is the first time that all categories were negative in the past 15 years. We expect continued vacancy increases across all categories as heavy construction pipelines in multi-family and warehouse property types are delivered.
  • National property prices for multi-family increased by 7.2% on a rolling 3-year basis, while retail properties lost 2.49%. Also on a 3-year basis, retail has lost value per unit nearly every month for the past 2 years.

Debt Capital Markets

  • Credit spreads widened at year end amid overall market volatility. CMBS BBB- widened by 73bps for the year, with the vibrant CRE CLO market coming to a complete standstill at year end. YTD18 CMBS conduit issuance of $40.4bn is off last year’s levels by over 18%. Competing products such as FHLMC ($69bn), SASB ($34bn), CRE-CLO ($14bn), and balance sheet lenders continue to take market share.
  • CMBS risk retention pricing – Horizontal subordinates in the 14% area, L-shaped subordinates in the 18% area.
  • Conduit delinquency rates dropped to 1.92% this month. Majority of delinquencies remain in 06/07 vintages.

Trends to Watch

  • Cyclical highs in property prices – all property types experiencing price volatility at national level. Negative absorption and heavy delivery pipelines. Multifamily and industrial building on a very robust pace.
  • Rising Interest Rates – growing deficit, tax policy, trade tensions may balloon deficits, spike rates, impact values
  • Increased leverage / easing standards – over-levered loan products finding their way into rated securitizations.

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