CWCapital Markets Update - Second Quarter 2017

In This Issue

In this issue of the Capital Markets update, we focus on the fundamentals and trends affecting national commercial real estate debt markets and feature a look at the CRE CLO market in search of value. We synthesize and present information gathered from various industry research, public resources, and our own research.

  • Economy: Steady, slow, and low.
  • Property price volatility in all classes
  • Feature: Checking in on the CRE CLO Market – Is there value in there somewhere?


Checking in on the CRE CLO Market – Is there value in there somewhere?

2017 has seen a resurgence in CRE CLO Issuance. At 10 deals issued so far ($3.7bn), we are on pace to the highest issuance in the past 5 years.

  • Multifamily properties make up some 60% of the balance, with 3 deals at or near 100%
  • Arbor and Prima Capital have led issuance (by number of deals) over the past 5 years
  • Collateral loans typically finance transitional properties with a 2‐4 year fully extended term
  • Loan spreads average L+500, which is double that of stabilized FHLMC floating rate loans
  • Cost of non‐risk retention debt for the CLO’s has average L+170
  • Significant levered spreads available to the CLO Issuer

For the complete commentary, stats and graphs:

The Economy

  • The July jobs report noted that 209,000 jobs were added to the economy, with the unemployment rate falling to 4.3%, matching the levels in 2006. The participation rate improved slightly to 62.9%. The Bureau of Labor Statistics notes continued job growth in food and beverage services, professional and business services, and again, healthcare. Average hourly earnings rose by 2.5% year over year, which represents a growing trend. The BLS has previously noted the decline in retail trade jobs. This trend is likely to continue as internet shopping grows. WTI crude oil has traded between $45‐$55/bbl for much of 2017.
  • The 10‐year US Treasury yield at 2.26%, is close to post election lows. We have seen a 2/10 flattening of 32bps YTD. While short rates have increased 50bps, 10yr rates have tightened by 14bps. From a lending standpoint, low rates continue as inflation remains below the Fed’s target. The Bureau of Economic Analysis advance estimate reported GDP growth at an annualized rate of 2.6%, with a revised Q1 estimate of 1.2%. Forward trade policy, deficits associated with tax reform, and geopolitical events could all influence currency and interest rate trends.

Property Markets

  • Effective rent growth ‐ National average picked up to 3.46% year over year. Multi‐family at 6.33%, retail at 1.86%.
  • Vacancy rates – For the trailing 1 and 5 year periods, vacancy rates have generally improved, however both multifamily and retail are now showing increases year to date. Retail shows a 10bp increase year over year. Multifamily has the highest deliveries in over 18 years. We expect continuing vacancy increases in selected areas.
  • National property prices report declines and volatility in all sectors, although we are still near peak levels. Year over year results for retail show a 12% decline. Interim data is sporadic, but downside volatility evident in all sectors.

Debt Capital Markets

  • Q217 CMBS conduit issuance of $11.9bn topped Q216 by 25% as investors became more comfortable with risk retention requirements and the maturity wave. YTD2017 issuance of $20.3bn slightly ahead of YTD2016 of $19.3bn.
  • CMBS risk retention pricing ‐ Horizontal subordinates in the 15% area, L‐shaped subordinates in the 18% area.
  • Current conduit delinquency is reported at 3.89% according to Trepp, with some 80% of such loans concentrated in the 2006/2007 vintages. We see refinance issues with 21% of maturing loans, a trend which has been increasing.

Trends to Watch

  • Cyclical highs in property prices ‐ national average hotel, retail, and office property prices experiencing volatility. Risk premiums have widened out year to date in all sectors. As property values increase we see property re‐levering with less and less sponsor equity. Multifamily valuations relative to cyclical highs, and construction of concern.
  • Transformation of the lending and investing base ‐ as conduit lenders and securitized markets withdraw, balance sheet and agency lenders increasing share. Subordinate investor base evolving to a new set of investors, including insurance, funds, and others with long term funding (in addition to traditional b‐piece/ special servicer firms).
  • Maturity wave and risk retention ‐ increased loan defaults as maturities meet the securitized markets. Reduced liquidity, risk retention, bank capital rules, and regulatory requirements. Overall maturity defaults (later than 90 days past maturity) at 21% trending higher according to Morningstar data.

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