Multifamily Bonds Surging to Record U.S. as CMBS Fade: Mortgages

Bonds backed by Fannie Mae and Freddie Mac tied to apartments soared to a record as the government-supported mortgage companies made low-cost loans on rental properties amid a continued slide in home values.

Fannie Mae, Freddie Mac and Ginnie Mae sold $13.5 billion of securities tied to the buildings in the first quarter of 2012, an 81 percent increase from the year-earlier period and up from $5.2 billion issued in all of 2008, according to data compiled by Bloomberg. It’s the highest quarterly issuance since records began in 1993.

The mortgage companies, rescued by the government after taking losses on home loans, are increasingly packaging apartment debt into securities for sale as regulators instruct them to aid housing and shrink their balance sheets. Wall Street banks are benefiting from selling the deals as Europe’s sovereign fiscal crisis has fueled volatility in credit markets and restrained transactions without the guarantees.

“The sheer volume of financing opportunities has grown tremendously,” said Mitchell Resnick, a vice president at Mclean, Virginia-based Freddie Mac. “This avenue permits us to do that without putting more assets on the balance sheet and more taxpayer dollars at risk.”

The U.S. government has spent $190 billion to shore up Fannie Mae and Freddie Mac since 2008, when they were taken into conservatorship as they teetered on the brink of collapse after investing in risky mortgages.

Rental Demand

Demand for rental properties is increasing as rents rise amid a 10-year low in vacancies fueled by a homeownership rate that’s at about the lowest level since 1998. The S&P/Case-Shiller index of home prices in 20 metropolitan areas fell 3.8 percent in January from a year earlier and is down more than 34 percent from its peak in 2006.

Landlords are seeking the loans to lower borrowing costs and fund purchases of apartment buildings. Sales of multifamily properties totaled $3.8 billion in January, a 53 percent increase from a year earlier and the strongest start to 2012 among all types of commercial real estate, according to Real Capital Analytics Inc., a New York-based research company.

Apartment construction is rebounding from a 50-year low reached in 2009 even as falling home prices and low interest rates begin to attract buyers back to the purchase market.

Building permits for U.S. apartments rose 56 percent in the 12 months ended in February from the low in 2009, more than doubling in five of the six most-active construction markets -- Dallas, Houston, Los Angeles, Washington and Seattle --according to Axiometrics Inc. and Census Bureau data. In the sixth, New York, permits rose 73 percent.

‘Too big to Ignore’

Agency debt, which accounted for less than five percent of total commercial-mortgage bond issuance at the peak in 2007, grew to more than 50 percent of total supply last year, JPMorgan Chase & Co. said in a presentation last month, with the heading “Agency CMBS: too big to ignore!”

The deals rose 57 percent to $33.9 billion in 2011, as the dollar volume of apartment loan originations by Washington-based Fannie Mae and Freddie Mac reached the highest level in at least 11 years, according to the Mortgage Bankers Association.

While the agency market is expanding, non-agency CMBS issuance is stuck at less than one-eighth of the peak. Sales have dwindled as the U.S. economy grows at its slowest post-recession pace since World War II and Europe’s debt crisis, fuels price swings that erode profit margins on new transactions.

Capital Requirements

The extra yield investors demand to hold top-ranked commercial-mortgage bonds rather than Treasuries rose 14 basis points last week, the biggest increase since October, to 196 basis points, according to Barclays Capital CMBS AAA Super Duper Index. The spread, which has decreased from 323 in October, is at about the same level as a year ago.

Banks arranged $4.7 billion of the transactions in the first quarter and $26.8 billion last year, Bloomberg data show. That’s down from $232 billion in 2007 before losses on subprime home loans spread and debt markets seized up.

Lenders are also wrestling with new capital requirements and regulations, including Basel III, an international banking agreement that makes it more expensive to stockpile property loans.

For banks, “between Dodd Frank and Basel III there is a lot of uncertainty around holding these loans on the balance sheet,” said Kimberly Johnson, a vice president for multifamily capital markets at Fannie Mae. “Until you know exactly how much capital you have to hold and in what format, it’s hard to estimate what your returns look like. For the agencies, securitization is the answer.”

Banks and investment firms are buying agency CMBS as it pays wider spreads than some other government-guaranteed securities with more predictable returns.

Credit Suisse Sells

Credit Suisse Group AG managed an $840 million bond sale last week, with a 9.6-year portion paying 65 basis points, or 0.65 percentage points, more than the benchmark swap rate, according to data compiled by Bloomberg.

“Fannie and Freddie have had a large multifamily presence for quite some time but most of that stayed on balance sheet,” said Chris Callahan, the New York-based head of commercial mortgage bond trading at Credit Suisse. With “investors looking for yield on high-quality assets, the emergence of this asset class helps satiate that demand.”

The Zurich-based bank is the lead underwriter of the securities with a 25 percent market share in the first quarter. Wells Fargo & Co. was second with a 17 percent share, Bloomberg data show.

Delinquency Rates

Credit Suisse has climbed from third for arranging the sales in 2010, according to industry publication Commercial Mortgage Alert, when it trailed Barclays Plc and Bank of America Corp. It rose to the top of the rankings last year with 25 percent share, followed by Bank of America at 18 percent and JPMorgan with 14 percent.

The government-backed entities are able to attract the strongest multifamily borrowers with low-cost loans, helping keep delinquency rates on debt held by Fannie Mae and Freddie Mac below one percent, according to the Mortgage Bankers Association.

In contrast, the proportion of past due multifamily loans originated by Wall Street surged as high as 17.58 percent in February 2010, Fitch Ratings calculates. The rate has since declined to 12.61 percent, Fitch said in a report last week.

Buoying Prices

While delinquencies are low, abundant low-cost financing backed by the U.S. government is inflating the values of apartment buildings and threatening to create a bubble, according to a March report by New York-based Chandan Economics LLC.

The interest rate for a 10-year, fixed multifamily loan designated for purchase by Fannie Mae and Freddie Mac was 4.1 percent on March 2, figures from New York real estate investment banking firm Cushman & Wakefield Sonnenblick Goldman show. The rate is for a mortgage that covers as much as 80 percent of a property’s value. That same loan was 5.6 percent a year ago, the company said.

The loans are buoying the price of apartment buildings to the point that buyers may not be able to refinance once interest rates rise, Sam Chandan, a real estate economist, said in the report.

“Take into account that home ownership is decreasing and on top of that, the obsolescence of the existing stock,” Resnick countered. “None of that would point you to the conclusion that there is a major oversupply.”

Apartment rents climbed 4.1 percent in the 12 months through December, according to Axiometrics. Multifamily landlords are projected to see their rental revenue increase by 6.7 percent this year, as little new supply comes to market.

“As long as we have stress in the single-family market, we’re going to see renting as a viable alternative to more people,” said Fannie’s Johnson.