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Life companies grab lead position in CMBS market The commercial mortgage market found itself in a state of disarray for most of September, according to the Barron's/John B. Levy & Co. National Mortgage Survey of major investors in whole-loans and commercial mortgage-backed securities (CMBS). While the major CMBS players tried desperately to figure out how wide spreads would have to go to attract buyers back, life insurance companies rushed to grab the leadership position in the market.

On the CMBS side, a "doom and gloom" attitude prevailed as CMBS spreads - the difference between Treasuries and mortgages of the same term - literally skyrocketed. Capital America, formerly a subsidiary of Nomura Securities, was in the market in late September with their newest fixed-rate transaction styled D-7. The transaction generated lots of attention, though mostly for negative reasons, including the resignation of Capital America's former CEO, Ethan Penner, along with the premium loan or buy-up structure, which was seen in some 43% of the transaction. Institutional buyers were told that this $1.1 billion securitization "had to be blown out" and, as a result, spreads increased to levels that one major CMBS trader called "desperation levels." For example, the A-1b tranche rated triple-A, which was initially being shopped at a spread of 1.40%, was finally sold at a spread of 1.55%, far in excess of even the most pessimistic estimates.

To virtually no one's surprise, the September new originations calendar, which was originally scheduled to total some $10 billion to $12 billion in fixed-rate transactions, shrank to half that amount as many firms chose to delay their securitizations until a more stable market evolved. Brian Baker, vice president of J.P. Morgan, noted that "spreads are surely at the bottom."

One of the unknowns currently swirling about the CMBS business is the role that Long Term Capital Management L.P.'s CMBS portfolio may play in the market. The beleaguered Greenwich, Conn.-based hedge fund is thought to own a cur rent portfolio of some $3 billion to $4 billion of CMBS, virtually all of which is rated either triple-A or double-A. Sophisticated market analysts do not expect this portfolio to be sold at a "fire sale," but rather in an orderly liquidation. Nevertheless, the chance of a large portfolio being quickly auctioned off has spooked the market.

On the conduit side of the market, new originations have been cut back severely. Many conduit operators don't want to increase their inventory until they are able to determine at what level their new originations can be profitably securitized. Among the originators who are totally out of the market include CS First Boston, Capital America and Amresco Capital. To be sure, these and other firms may do an occasional deal, but they are being extraordinarily selective.

Though CMBS spreads are currently at heroic levels, there are a few emerging signs that the market is poised for a rebound. New construction loans have ground to a halt, eliminating overbuilding as a concern. Further, REIT stocks have done well over the last month with some individual stocks up 15% to 20%. Roger Lehman, director at Merrill Lynch, in a research piece released at the end of September, argues that presently there is a disconnect between the REIT index, which has already rallied, and CMBS spreads, which have yet to turn around. Assuming the relationship between REIT prices and CMBS spreads returns to its normal level, CMBS spreads could be in for a significant tightening.

While the CMBS market was in shambles, executives at insurance companies have been singing a chorus of "Happy Days Are Here Again." Most note that they have money to fund new transactions and are trumpeting their firms as the paragons of reliability and consistency, regardless of conditions in the securities market. Nevertheless, whole-loan originators have not been oblivious to happenings in the CMBS market and have widened spreads to take advantage of the opportunities that exist. Many insurers, instead of pricing at a spread over Treasuries, have merely set a floor under rates and are offering these rates to borrowers regardless of how low Treasury yields sink. Floor rates in the 61/2% to 7% range for 10-year mortgage money are commonplace.

Some insurers are not only making loans for their own portfolio but are becoming conduits in themselves and thereby hope to originate more loans than their own portfolios need. These insurance company conduits include some of the biggest names in the business, including Massachusetts Mutual Life Insurance Co., Principal Mutual Life Insurance Co. and John Hancock Life Insurance Co.

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