Jan 22 (The following statement was released by the rating agency)
The lone improvement in U.S. CMBS underwriting last
year stands to deteriorate in 2014, which could translate to a spike in credit
enhancement on new deals, according to Fitch Ratings in a new report.
Fitch notes that every major CMBS underwriting metric declined in 2013 except
for debt service coverage ratio (DSCR). However, with interest rates likely to
rise over the next two years, DSCR will likely decline too. In turn, Fitch is
likely to raise CMBS credit enhancement levels if higher interest rates push
And, even if current levels of DSCR are maintained, Fitch will, as it has
steadfastly maintained over the past two years, increase CMBS credit enhancement
if other underwriting parameters continue their deterioration.
a€˜Debt on new CMBS deals will be increasingly comprised of first and second
mortgages and mezzanine financing in order to refinance loans coming due over
the next few years,a€™ said Managing Director Huxley Somerville. a€˜Subordinate debt
in CMBS deals already rose in the second half of last year and stands to do the
same in 2014 as the refinancing debt wall approaches.a€™ Particularly problematic
may be CMBS deals containing loans underwritten with expected net operating
income increases that do not come to fruition.
Another troubling trend taking place in 2013 was the increase in interest only
loans (IO), with Fitch reporting over 50% of loans having some form of IO
period. Fitch finds this counterintuitive given the current low interest rate
environment. With the likelihood of interest rates being higher at refinance and
the potential for lukewarm economic growth over the term of the loan, a€˜the logic
of removing a strong mitigant to CMBS refinance risk in a higher rate world is
questionable at best,a€™ said Somerville.
It should be noted that Fitch has already baked in higher interest rates into
its CMBS ratings. Fitcha€™s analysis provides benefit to the fixed rate of
interest through the term but recognizes the potential stress at maturity when
the loan may need to be refinanced with a higher interest rate.
a€˜CMBS 2014: DSCR Down, Credit Enhancement Upa€™ is available at
a€˜www.fitchratings.coma€™ or by clicking on the below link.
Link to Fitch Ratings' Report: CMBS 2014: DSCR Down, Credit Enhancement Up