Morgan Stanley CMBS Aids Banks Emptying Books: Credit Markets

Morgan Stanley
Morgan Stanley signage is displayed at their headquarters in New York. Photographer: Peter Foley/Bloomberg

Wall Street banks seeking to unload commercial mortgages amassed before Europe’s sovereign crisis deepened and a slowing economy rattled markets are getting a reprieve from rising yields after Morgan Stanley sold bonds yesterday that demonstrated demand for the debt.

Morgan Stanley and Bank of America Corp. sold the top-ranked 10-year portion of a $1.5 billion bond offering at 185 basis points more than the benchmark swap rate yesterday after marketing the debt earlier at as much as 215, a person familiar with the offering said. Similar debt that Deutsche Bank AG and UBS AG sold last month paid a spread of 200.

Relative yields on securities tied to offices, hotels and shopping centers have been hovering at about the highest levels since June 2010 as investors shun riskier assets amid concern a Greek default may infect European lenders and as economists lower U.S. growth forecasts. Banks have pulled back from making new loans to package into bonds as price swings erode profit margins on the deals.

“This momentum certainly would encourage banks, but it takes a few more pricings to demonstrate a trend,” said Jeffrey Berenbaum, a commercial-mortgage debt analyst at Citigroup Inc. in New York. “It’s a matter of taking a step back to see how things settle before looking to continue lending.”

Barren Pipeline

While lenders are poised to sell as much as $6 billion of stockpiled debt through October, the rest of the year may have no offerings, Bank of America analysts said in a Sept. 9 report. More than $24 billion of the debt has been raised in 2011, following $11.5 billion last year, according to data compiled by Bloomberg.

JPMorgan is marketing a $1 billion issue, according to people familiar with the sale. Goldman Sachs Group Inc., Citigroup Inc., Wells Fargo & Co., Royal Bank of Scotland Group Plc and Deutsche Bank AG are also arranging transactions, the people said.

Elsewhere in credit markets, a benchmark gauge of U.S. corporate credit risk fell for a third day from a two-year high. The Markit CDX North America Investment Grade Index, which investors use to hedge against losses on corporate debt or to speculate on creditworthiness, dropped 2.4 basis points to a mid-price of 126.4 basis points as of 12:03 p.m. in New York, according to Markit Group Ltd.

The index, which typically falls as investor confidence improves and rises as it deteriorates, has decreased from 135.9 basis points on Sept. 12, its highest level since July 2009. Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

Commercial Paper

U.S. commercial paper outstanding declined $22.6 billion to $1.043 trillion in the week ended Sept. 14, the Federal Reserve said today on its website. That’s the lowest level since the market, which has fallen for nine straight weeks, reached $1.042 trillion in the period ended Feb. 16, according to Fed data compiled by Bloomberg.

The commercial-mortgage bond offering from Morgan Stanley and Bank of America is composed of 63 loans on 76 properties, the person said. Retail property debt accounts for 46.3 percent of the offering and office debt is about 30 percent. Loans in Texas and California account for 31.2 percent of the pool.

Wider Spreads

The securities were priced as German and French leaders expressed support for Greece remaining in the euro monetary union and speculation that China may help the region’s most-indebted nations.

Political and economic turmoil drove relative yields on top-ranked commercial-mortgage bonds to 303 basis points more than Treasuries on Aug. 25, the most since June 2010, before narrowing to 291 yesterday, according to Barclays Plc index data.

Spreads climbed from this year’s low of 178 on April 26 as Fed auctions of mortgage securities assumed in the rescue of American International Group Inc. weighed on credit markets. The selloff was exacerbated in July as the sovereign-debt crisis engulfed Italy and lawmakers in Washington clashed over raising the U.S. debt ceiling, leading S&P to cut America’s top credit grade on Aug. 5.

Economists are lowering their growth forecasts for the U.S. Gross domestic product will expand 1.7 percent this year, less than the May forecast of 2.8 percent, according to a survey by the National Association for Business Economics issued Sept. 12 in Washington.

Delinquencies Fall

Commercial-mortgage bond sales have tumbled from a record $234 billion in 2007. A dropoff in new lending may make it harder for some borrowers to refinance maturing loans, according to the Bank of America analysts led by Alan Todd.

“Borrowers with less capital or less attractive properties will obviously have fewer options,” the New York-based analysts wrote. “It is likely that the trend of liquidating smaller loans and modifying and extending larger loans will persist.”

Delinquencies, which climbed to a record 9.01 percent in July, fell 36 basis points last month, according to Fitch Ratings.

Banks have increased the so-called credit enhancement, which protects AAA bondholders from losses, to 30 percent on deals offered since last month as investors pushed back on terms and demanded higher yields. That compares with 16.875 percent on a $1.48 billion transaction from Wells Fargo and Royal Bank of Scotland in July.

‘Nice Pickup’

The additional investor protection coupled with property valuations in recent deals compares favorably with bonds sold in 2005, while offering a “nice pickup” in spread and yield, said James Grady, a managing director at Deutsche Asset Management in New York, including commercial-mortgage debt.

“This is a trade that makes sense and you will see investors take advantage of this opportunity while it lasts,” Grady said.

The slide in the safest classes of commercial-mortgage bonds has made the debt attractive relative to other fixed-income investments, Wells Fargo Chief Financial Officer Timothy J. Sloan said in a Sept. 12 conference call with analysts.

“Spreads blew out pretty significantly over the past few months,” Sloan said, referring to the most senior portions of commercial-mortgage securities. “That’s not the only class that we think is attractive, but we definitely want to be able to take advantage of opportunities.”

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