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Fitch Expects CMBS Loss Severity To Rise Markedly Next Year
As anyone who has spent even a day looking at securitization tranching or CDS trading will tell you, there are two critical components to any investment that involves risky fixed income: cumulative loss probability and loss severity: the first tells about how likely any given security is to default within a given amount of time, while the second determines what the final recovery will be assuming there is an actual even of default. The two are usually tied in very closely, as any (forced) delays in reaching a default state usually come at the expense of exhausting any underlying asset value (and in some cases being primed by additional layer of debt which get a first look on assets in the case of liquidation).
Which is why today's announcement by Fitch that CMBS loss severity is expected to risk markedly next year should be viewed with extreme caution: in essence the artificial delays in bringing the CRE market to fair value in terms of delinquencies and REOs going to foreclosures will simply result in much lower eventual recoveries.
From Fitch, as reprtined from Research Recap:
More than three-fourths (78%) of loan resolutions resulted in no losses to the trust last year. But with commercial real estate debt capital remaining scarce, disposition times will increase to between 24 and 36 months as special servicers are contending with a record backlog of loans (up over 300% since beginning of the year).
‘Special servicers may have to hold certain properties until liquidity returns to the market,’ said Senior Director Britt Johnson. ‘Though recent REMIC reforms may help mitigate loss severities, defaulted loans will take more time to be resolved and losses often will be deferred until maturity.’
Multifamily loans represented an average cumulative loss severity of 38.6% in 2008, with that number likely to increase as many markets have seen increasing levels of unemployment and are suffering from oversupply. Other property types that will see increased loss severities include office (33.3% cumulative average loss in 2008) and hotels (39.5% last year). It should be noted that other property types other than multifamily collectively make up a significantly smaller piece of the CMBS loan universe.
The one area mostly concerning to Fitch is hotel loans:
Additional hotel losses and defaults are likely as sponsors may deplete reserves or discontinue coming out of pocket to pay debt service on underperforming assets,’ said Johnson.
The take home message here is that what is relevant for CMBS is just as relevant for all leveraged loans: the temporary reprieves granted to many leveraged securities will come back to bite investors when defaults eventually pick up again, however with the result being loss rates which will be much higher than default expectations. Frequent Zero Hedge readers will recall CDS auctions from the beginning of the year when many companies would achieve single digit recoveries. The repeat of that phenomenon is only a matter of time as underlying cash flows and asset bases become exhausted. In the meantime, the delay mentality has gripped every asset class. How long, however, can delays persist in an environment of declining cash flows is an open question, and the unpleasant answer to investors is "not much." And when the double whammy of marginal recoveries once again sets in, look for a major correction across all credit markets.
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if you missed latest Niall Ferguson, series of videos mostly focusing on long term US v China, US as parallel to Britain 100 years ago, and some on the dollar. Also why China can walk away from the US today with less of an impact than commonly believed... don't fully agree with last point, but give it about 8-12 years.
http://www.fundmymutualfund.com/2009/10/niall-ferguson-on-yahoo-tech-tic...
Thx for the link Tradermark :)
welcome
I'll tell you what, I'm not a Yahoo guy but I do visit once a day for the Tech Ticker interviews. There is usually some gold in each days' fare.
As for the CMBS, no problemo... we'll just print more money to replace those we'll lose on these silly instruments. New fiat money fixes everything - hello!
(sarcasm)
After reading this post and the Hussman analysis I think I am going to follow CB and start looking at Gobi real estate. Are yurts affordable?
http://www.nomadshelter.com/
That's the ticket. Can we start pushing no-money-down yurt mortgages and create a secondary market to off load the junk to the usual suckers?
Don't tell GS or we'll be crowded out in a Goldman minute.
Thanks for breaking this down so well TD.
I recall an article you wrote some time ago about the S&P downgrade of CMBS that was reversed very shortly afterwards. Understanding that the CRE mess is an impending disaster, and understanding that the rating agencies have clearly been less than independent and/or exacting in handing out triple a's, does anyone have opinions on the treasury/fed complex getting into the act with the rating agencies?
(thoughts of meredith meeting sheila cannot be erased from my mind)
Having been studying securitization (which dates back to 1906 in the U.S., earlier in Denmark and other parts of Europe) and credit derivatives (all 3,000 plus categories of them, can ya believe it?) since the passage of the Commodity Futures Modernization Act (a behemoth-sized loophole of loopholes - please ignore that trivial drivel about just an "Enron loophole") we are in such unique territory today that any and all predications are simply fantasy notions, as the data parallels are similar to the Great Depression, only much worse by a factor of over 10,000!
The Fed gang continues to help the gaming of the system while piling ever more layers of securitization and new types of worthless derivatives on the markets (Trade Insurance Credits, if memory serves, is the Fed's latest suggestion, while the cap-and-trade will yield new carbon derivatives and offset securitizations, as well as those upcoming medical exchange securitizations of mortality bonds, extreme mortality bonds and healthcare receivables.....). We are truly screwed.....
thank you.
A further dilemma is figuring out where all the toxic CMBS paper lies.
I suspect the pension funds are eyeballs deep in this shit.
Here comes Timmy and Barry with TARP II . Just in time for the '10 midterms. Perfect timing.
my understanding is that the big insurers are loaded with it...
Regional banks hold a lot in CRE exposure as well, non-securitized. Venturing a guess from recall, the ratio of securitization / total CRE lending was ~ 40-45% (per chance this is wrong, just not certain).
i believe that the number is about 50% for CMBS/Securitized versus Regional banks. But about 20% for total outstanding debt. that is for the 2007 and 2008 years. CMBS was significantly lower is previous years but i believe only slightly less on a % basis (totals were a lot lower).
thanks for clarifying
Now I NEED MCC to suckle me back from the brink !
Please someone post some more wabo cabo bikini shots so i can recover from the depression.
Commercial real estate bailout coming in 3 .... 2 .... 1 ....