New offerings fill upcoming CMBS calendar Commercial mortgage rates fluctuated widely during August, according to the Barron's/John B. Levy & Co. National Mortgage Survey of institutional lenders and investors in the market for commercial mortgage-backed securities (CMBS). The 10-year Treasury market showed unusual volatility as it toyed with 6% and then quickly bounced back to the 6.30% to 6.40% range. A number of fence-sitting borrowers decided to jump in the market and pursue a fixed-rate mortgage with the thought that more upward pressure was likely.

In the CMBS market, August was, as always, relatively quiet as a large number of traders and investors were on vacation. But it was surely the calm before the storm as the CMBS calendar was filled to the rafters with new offerings which began during the second week in September. In fact, the new deal calendar indicates that over $8 billion may be coming to market during September and early October -- clearly the largest offering docket ever during the market's relatively young life. The previous monthly record was $6 billion in June of this year. The market is clearly taking on an "end of the quarter" flavor with the investment banks all lining up to price their paper before the quarter ends.

The monsoon of oncoming deals started the second week in September with a $1.1 billion conduit offering led by J.P. Morgan and Prudential Securities. But September may well have seen the largest CMBS transaction ever: a $1.8 billion to $2.0 billion offering underwritten by Deutsche Morgan Grenfell and Lehman Brothers. This securitization consists of mortgages supplied by a number of conduit operators, including Deutsche Morgan and GMAC.

With the huge pending list of deals, both buyers and sellers are clearly wondering whether spreads will continue to contract as they have on a regular basis over the last three years. Some observers are suggesting that spreads could widen perhaps as much as 0.05% as this slew of new deals will truly test the depth of the market. At the end of June's $6 billion calendar, in fact, a few investment banks were left holding some bonds which they weren't able to sell at the indicated price. But even given the exceptional upcoming supply, a spread widening scenario is, in fact, the minority opinion. While both buy and sell sides agree that further significant tightening is highly unlikely, most seem to indicate that the market will absorb all of the new offerings at relatively stable spreads. The number of buyers is continuing to expand, but offerings are multiplying even more quickly. As one market analyst commented, "The days of being 10 times oversubscribed are over."

Since spreads are expected to be relatively stable in the CMBS arena, one money manager stated that it appears now that the CMBS "sector play" is over. He noted that until recently, investors could buy CMBS and almost be guaranteed a capital gain as spreads tightened on a regular basis. As that is no longer a sure bet, investors will have to do more due diligence and become more astute in order to outperform the market.

On the whole-loan side, interest rate volatility turned out to be good for business. Many survey participants indicated that they were pleased about both the level of inquiries and actual commitments. But as they noted, the market still continues to be competitive and, as one survey member commented, "it is really doggy out there."

Survey members continue to be concerned about the seemingly inexorable deterioration in underwriting standards. According to one survey member, "It's just like we've forgotten the fundamentals." Given today's low rates and low debt service coverage ratios, a small change in rates and underwriting conditions could make many of today's loans unrefinanceable when they mature.

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John B. Levy is president of John B. Levy & Co. Inc. in Richmond, Va.