(Corrects size of deal to US$479.137m in second graf)
By Adam Tempkin
NEW YORK, Nov 1 (IFR) - Kroll, Moody's, and Morningstar held phone conversations with cautious bond investors Friday following a three-city roadshow by structuring lead Deutsche Bank for the first-ever home-rental bond from Blackstone, described as a hybrid RMBS/CMBS.
Deutsche and co-leads JP Morgan and Credit Suisse pitched the Triple A rated US$479.137m Invitation Homes 2013-SFR1 offering to more than 350 investors. Deutsche's London syndicate desk even relayed the marketing message to clients in Europe in an attempt to broaden the appeal of this deal.
Among investors' main concerns was that Blackstone did not have enough "skin in the game", or pledged equity capital, and that the rating agencies were giving too much credit to recent home price appreciation (HPA) on distressed properties that were only purchased by Blackstone within the last year.
The agency analysis utilised recently updated so-called "broker price opinions" or BPOs, reflecting estimated current home values that some investors said were too high in some regions. Even the rating agencies acknowledged in their respective pre-sale reports that the BPOs were too high in several areas; so high, in fact, that they looked at national home-price indices and in some cases applied a cap to the amount of HPA they would give credit for.
Moreover, while the stated LTV for the transaction was a reasonable 75%, the loan-to-cost (LTC) was closer to 88%, meaning that Blackstone is borrowing a greater amount relative to its overall acquisition costs for the 3,207 foreclosed properties underpinning the deal. As an example, if Blackstone purchased a house for US$80,000, and renovated it for US$20,000, the all-in cost would be US$100,000. The loan amount under this deal would be US$88,000 relative to that US$100,000, with only US$12,000 of equity from Blackstone.
The issue led investors to conduct more due diligence, but would not necessarily dissuade them from investing in the trade. "It's very easy to audit cost, but a lot harder to audit value," said one RMBS investor. "It would be easier for investors if they didn't have to think about this BPO issue. It's a question mark - a headline issue. It sounds interesting; I need to do some more work on it."
LTC is a key metric for bond investors. The credit performance of loans is correlated to the capital that the sponsor, Blackstone, has at risk, and investors would have preferred that the sponsor had more equity at risk.
Blackstone has between 5% to 10% equity in the deal, Kroll told IFR, although Blackstone would argue that it has 25% equity, based on the 75% LTV number, analysts said. The agencies included the sponsor's significant refurbishment costs as part of their overall acquisition-cost calculations.
CMBS or RMBS?
Another major concern cited by investors is the fact that Blackstone chose a CRE special servicer, Situs Holdings LLC, for what is mostly a residential mortgage deal. Investors expressed the fear that a CRE servicer is not experienced with coordinating management on more than 3,000 single-family residential properties across the country.
Moreover, the deal's portfolio will be managed by THR Property Management, a subsidiary of Invitation Homes, which itself is a subsidiary of Blackstone. If the equity in the deal gets "blown up", as one investor said, and Blackstone shuts down its property manager, it's not clear what the strategy will be to transfer or replace property management duties - including transferring data files and administering the collection of rent checks in numerous different states.
"Those are meaningful concerns," said Glenn Costello, who led the team of RMBS and CMBS analysts who rated the deal at Kroll. "Situs won't step into the shoes of Invitation Home's property manager. But from a CRE perspective, it's a commercial loan, and you can see a CMBS-style workout or refinancing if this happens. Failing that, you could talk about property liquidation."
Moreover, in this case a special servicer can take possession of an entire portfolio all at once, Costello said, selling properties in bulk to either institutional investors or companies specialising in REO sales.
"I wouldn't say not to be concerned about this issue, but there is significant flexibility around the portfolio," he noted. "We're comfortable with the credit enhancement (41.8% for the Triple A). We don't rate investment-grade bonds based on our view of any one owner or manager's skin in the game. Skin in the game is valuable, but ownership can change."
In fact, the hybrid CMBS/RMBS nature of the bond both intrigued and confused investors assessing the deal. Multifamily CMBS technology was certainly used, and the homes are income-producing properties, similar to CRE.
On the other hand, the potential liquidation of homes in the much-larger single-family residential market is completely different than selling one office building, for instance. "Skin in the game" is nowhere near as important when there is one solid, well-capitalised buyer for a large office building, but is very important when thousands of homes across the country need to be liquidated, investors said.
Relative-value calculations also become more complicated if the bond is viewed as a hybrid. On the bond-buying side, for instance, a CMBS analyst told IFR that multifamily CMBS bonds look cheaper than the REO deal.
Nearly 90% of the homes underpinning the transaction are located in and around Phoenix, Arizona; Riverside, Los Angeles and Sacramento, California; Atlanta, Georgia; and Tampa, Florida. (Reporting By Adam Tempkin; Editing by Anil Mayre)