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Cautious Bear Swims In A Bull Market

Bear, Stearns' approach to mortgage securitization can easily be summed up in an explanatory sentence used by one of its managing directors: "It tends not to be the first one in the pool, but does end up staying in the water longer."

The company was a late-comer to the residential mortgage business, but today Bear, Stearns is one of the largest Wall Street firms in that market. While others bullied their way into the commercial mortgage-backed securities (CMBS) market, Bear, Stearns' initial approach had almost been too cautious. Of all the companies doing conduit securitization last year, Bear, Stearns ranked 17th with $465.8 million in issuance. This year, however, the company has become a force to be reckoned with. Bear, Stearns has grown its CMBS business exponentially and is closing at a rate that will yield total conduit funding approaching $2 billion in calendar year 1998.

'Measured approach' "We aren't always at the forefront of a brand new technology, but once we get in, we take a more measured approach," says Christopher Hoeffel, a managing director in the company's Commercial Mortgage Department.

Bear, Stearns' careful approach should put it in a good position as the intensified competition in CMBS has squeezed margins so seriously, many of the big players today may not stay in the business tomorrow.

"CMBS is not as profitable a business as it was a couple of years ago, things have to be priced very tightly," says Hoeffel. "There will be companies that will get out." But probably not Bear, Stearns. "Bear is used to being efficient and very competitive," adds Hoeffel. "This market looks like the residential market in its early stages. That has become a very low- margin business, yet Bear is one of the largest players. We never exited the residential mortgage business (as others have), we just learned to do it more efficiently."

Growth mode Bear, Stearns has rapidly emerged as one of the major financial institutions on Wall Street. Its capital base now sits at $13.3 billion, up from $2.3 billion in 1992. Employees number 8,500 in 19 offices around the world. It is one of the leading investment banks to the real estate industry, providing comprehensive investment banking, capital markets and advisory services.

The investment banking group draws on Bear, Stearns' debt and equity trading, sales, contract finance and research capabilities to deliver a broad range of products. About 18 months ago, the company centralized its real estate investment banking business into the Real Estate, Gaming, Lodging and Leisure Investment Banking Group (REGAL), headed by Thomas Flexner.

REGAL is now supported by about 30 staff members while the commercial mortgage group, which had just seven people two years ago, employs almost 50 people and could end up with as many 70 by the end of the year.

Last year, Bear, Stearns completed 19 real estate equity underwritings of $3.8 billion, five debt underwritings of $922.5 million, and merger and acquisition activity of $15.4 billion. Among its many deals over the past two years, Bear, Stearns advised Blackstone in its $1.8 billion sale of properties to Host Marriott, Glimcher Realty Trust in its $200 million acquisition of Retail Property Trust Investors, and Starwood Lodging Trust in its $13.7 billion acquisition by ITT Sheraton.

Through the first six months of 1998, REGAL is running way ahead of last year's numbers. Equity underwriting year-to-date totals $1.6 billion, debt underwritings $545 million, and already it has surpassed last year's M&A totals with $18.6 billion.

"We have a very strong industry focus on advisory and capital raising that allows us to offer a greater degree of service to the clients we have targeted," says Ralph Rose, managing director of REGAL. "We have a very focused and effective practice that has created a strong degree of repeat business."

CMBS underwriting expands Probably the fastest growing part of Bear, Stearns' real estate activity has been its commercial mortgage department, with its core business of conduits. Last year, the company underwrote about $1.4 billion worth of CMBS. Already this year, it tallies $3 billion in CMBS underwriting. The company recently completed a $715 million CMBS issuance that was somewhat unusual in that Bear, Stearns was the sole originator and manager. The trend over the past two years has been increasingly to do joint CMBS issuances. Bear, Stearns' two deals last year were with Chase Manhattan.

"We decided to go off on our own, because we are big believers that brand recognition will make the difference between the assorted trading shops," explains James Reichek, a senior managing director and head of the commercial mortgage department. "We were confident that we could run our shop like a loan company in terms of how we do our underwriting and origination. The investors are big fans of our product and we thought we could get the full benefit by going on our own. In fact, our AAA-traded tranches were two basis points tighter than anyone else's AAA-traded the week of our deal."

Reichek adds, "we are not only large enough in size to give it a go independently, but have the economies of scale and the skills to do it on our own."

Bear, Stearns expects to do another deal before the end of the second quarter - the company will be the sole master of its fate on this deal as well.

This is all not to say Bear, Stearns is an island when it comes to CMBS. The company does third-party securitizations and recently co-managed a deal with Wells Fargo to provide warehouse financing to mortgage REITs.

Courting mortgage bankers More importantly, Bear, Stearns only sources its CMBS through the mortgage banking community unlike other Wall Street houses, which call on borrowers directly. "We only source through mortgage bankers, and that is an important aspect of our program," says Barry Schumacher, a managing director and co-manager of the conduit program with Hoeffel. "Our offices are not set up as loan production offices. They are there to simply bring Bear, Stearns closer to the mortgage banking community."

Bear, Stearns' conduit business was established on a regional basis with the country separated into nine geographic areas. The company hasn't yet attempted to build nine in-place, regional units, but it does have offices in New York, Los Angeles and Chicago. It's contemplating opening a fourth office in Dallas.

"We try to work with a relatively select set of mortgage bankers. The only time we deal direct is if it is a corporate relationship," says Reichek. "One of the things that attracts mortgage bankers to us is that we don't use contractors. We do everything in-house. The mortgage banker has a relationship with someone who is involved with the deal from the initial quote through the credit committee process."

Financing terms Bear, Stearns provides first mortgage acquisition and refinance loans of $2 million and above on a wide variety of real estate assets, from office and industrial to hotels and self-storage. For example, Bear, Stearns lends to: assisted living and nursing homes at 75 percent loan-to-value, spreads of 130 to 200 basis points and a 25-year maximum amortization; hotels at 70 percent LTV, 130 to 210 spreads and 25 years; multifamily at 80 percent LTV, 110 to 160 spreads, 30 years; mobile home parks at 80 percent LTV, 110 to 155 spreads, 30 years; retail-strong anchored, 80 percent LTV, 115 to 195 spreads, 30 years; and retail-unanchored, 75 percent LTV, 135 to 205 spreads and 30 years.

In addition, Bear, Stearns guarantees to quote loan and spread within two days, targets under 45 days for a closing, asks for no commitment fee until a commitment letter is issued, and fixes third-party costs and lenders' legal fees.

Recent retail transactions included $22.3 million for a retail portfolio encompassing properties in Florida, North Carolina and Virginia; $21 million for Norwalk Town Square in Norwalk, Calif.; $8 million for Acme 55/Riser Foods in Akron and South Euclid, Ohio; $7.8 million for Southfield Retail Center in West Windsor Township, N.J.; and $4.35 million for Riverside Shopping Plaza in Cortland, N.Y.

Penchant for retail If there is any asset class in which Bear, Stearns does more deals, it would probably be retail. The company's average loan size is $6 million to $6.5 million. Up to 40 percent of all loans fall into the retail category. "We do straight debt finance at a rate approaching $150 million per month and retail is our No. 1 conduit product measured both in numbers of deals and total dollars funded. Our product includes anchored centers, unanchored centers, shadowed anchor centers - the whole gamut of retail," says Greg Spevok, director of national marketing for the commercial debt finance group.

Retail lends itself well to longer- term financing, and there is a lot of it out there in good loan sizes, explains Spevok. "Because a typical retail center falls into a certain $5 million to $10 million sweet spot, it lends itself well to pooling. In CMBS, you own all these mortgages that are bundled together and properly underwritten, given their relative security, (they) enhance the collateral of the pool."

Adds Spevok: "Many companies finance retail, we just happen to do a lot of it in all parts of the United States."

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