There are several signs that the credit markets, especially for Commercial Mortgage Backed Securities (CMBS) have started to unfreeze. The most definitive signal came on May 1, 2009 when the Federal Reserve modified the Terms and Conditions of their Term Asset-Backed Securities Loan Facility 1 (or TALF). Starting June 2009, the Federal Reserve has authorized TALF loans with maturities of five years (up from the original one to three years). That TALF program includes CMBS and securities backed by insurance premium finance loans as eligible collateral.
Insurance premium finance loans are extended through the Small Business Administration to small businesses for obtaining property and casualty insurance. The loans, which are typically funded through the sale of asset-backed securities, had become very expensive since the disruption of the markets in late 2007.
TALF was initially launched as a $200 billion program for the purchase of new auto, student and small-business loans, with terms of one to three year. However, later the Treasury announced its plans to expand to facility to $1 trillion and also to include commercial mortgage-backed securities, residential MBS and for purchase of legacy assets under Public-Private Investment Program (PPIP). The inclusion of CBMS and insurance premium finance loans in TALF is expected to ease the flow of credit in these markets.
The revised program stipulates that covered loans (among other things):
- must have been made after July 1, 2008,
- be fully-funded, first-priority mortgage loans that are current in payment at the time of securitization
- Fixed rate (no interest only)
- At the time of securitization, the CMBS must receive the highest long-term investment-grade rating category from more than one credit rating agency
- No CMBS may have an average life beyond ten years
- Each TALF loan secured by a CMBS will have a three-year maturity or five-year maturity, at the election of the borrower.
- A three-year TALF loan will bear interest at a fixed rate per annum equal to 100 basis points over the 3-year Libor swap rate.
- A five-year TALF loan is expected to bear interest at a fixed rate per annum equal to 100 basis points over the 5-year Libor swap rate
- The collateral haircut for each CMBS with an average life of five years or less will be 15%. For CMBS with average lives beyond five years, collateral haircuts will increase by one percentage point for each additional year of average life beyond five years.
Based on the above stipulations, it could be concluded that the TALF program is not meant to help banks clean up their balance sheets, but rather to unfreeze CMBS markets for future projects.
Based on articles in the Wall Street Journal on May 3, it appears that these changes may be working, when it was reported that a small group of investors led by JP Morgan Chase & Co., put together a $5 billion bond offering backed by credit-card loans that is eligible for the program, sold at 1.55% over the LIBOR rate. Based on advanced registrations, the WSJ expected about $10 billion in offerings to be made in May.2
The success of these programs is made more important when considering that the results of the April 30, 2009 “Stress-Test” suggest that in a worst-case scenario, the 19 largest US banks are expected to see losses of up to 12% on commercial real estate loans over the next two years.3 The same article noted that Moody’s Investors Service said that it downgraded $52.9 billion in commercial mortgage collateralized debt obligations that were part of a $83.1 billion portfolio under review. It was also noted that close to 3,000 banks and thrifts had commercial real estate portfolios that exceed 300% of their total risk-based capital.
References
1Federal Reserve Bank of New York. “Term Asset-Backed Securities Loan Facility (CMBS): Terms and Conditions” Effective May 1, 2009 http://www.newyorkfed.org/markets/talf_cmbs_terms.html, downloaded May 3, 2009
2Shrivastava, Anusha and Michael Anerio. “Program to Unfreeze Credit Receives a $10 Billion Boost” The Wall Street Journal. May 5, 2009 p C1
3Wei, Lingling. “Small Banks Face Hits on Commercial Real Estate” The Wall Street Journal. May 5, 2009 p C1
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