Banks licensed to trade U.S. property derivatives

(Adds NCREIF statement, broker comments, rewrites)

By William Kemble-Diaz

LONDON, March 5 (Reuters) - Credit Suisse (CSGN.VX), Merrill Lynch MER.N, Goldman Sachs (GS.N) and Bank of America (BAC.N) have been granted three-year licenses to trade U.S. commercial property derivatives, a potential breakthrough move in the development of the embryonic market.

In a statement on Monday, the National Council of Real Estate Fiduciaries (NCREIF) confirmed a Reuters report on Feb. 14 that four Wall Street banks would soon start trading over-the-counter instruments in New York based on its benchmark property indexes.

In e-mails to Reuters, Merrill Lynch and Goldman Sachs said they were ready to help develop a market in U.S. commercial property derivatives and to join Credit Suisse, which was granted an exclusive NCREIF trading license two years ago but waived those rights in October when it failed to build market liquidity after executing only a handful of trades. Earlier on Monday, the Financial Times reported that Lehman Brothers LEH.N and Morgan Stanley (MS.N) were also close to signing up for licenses. Neither Morgan Stanley nor Lehman Brothers could be reached for immediate comment.

The NCREIF licenses are for trading swaps based on its indexes, including the quarterly NCREIF Property Index (NPI), which tracked 5,333 U.S. properties with a market value of $247 billion at the end of 2006.

A London-based trader from one of the named brokers said the jury was still out on how the U.S. property derivatives market might look in the future, given the development of rival commercial property indexes by Standard & Poor's/Global Real Analytics, Real Capital Analytics and REXX. "There are still some discussions," he said. "The intention for now is to start with the NCREIF index and see how it works."

DWARFED IN FUTURE

Institutional real estate fund managers such as pension funds use NCREIF indexes as a benchmark to measure the performance of their holdings, giving it an edge as the basis for derivatives that might enable investors to hedge or enhance the property returns on their portfolios.

Interbank broker CBRE Melody/GFI said the market was likely to develop along various routes.

In an email to Reuters, CBRE Melody/GFI spokesman Phil Barker said the NCREIF index was likely to be "the derivative index of choice" for the market but added that the REXX index also had a potential role to play because it used a different subset of data -- asking rents and lease rates.

Transaction-based property indexes were also in the frame but were often subject to some seasonality, particularly when large individual properties or portfolios changed hands.

Commercial property index derivatives have traded for about three years in Britain, where the market offers trading in swaps that are largely based on the UK All-Property index compiled by NCREIF-peer Investment Property Databank (IPD).

Trading volumes quadrupled to 3.6 billion pounds ($6.9 billion) last year but remain tiny in comparison with other derivative markets, and 15 banks have been granted IPD licenses to trade.

Some market participants expect the UK market to be dwarfed eventually by its U.S. equivalent due to the sheer scale of the underlying U.S. real estate market.