"Free-for-all' characterizes commercial mortgages

Commercial mortgage rates eased significantly during the last 30 days, according to the Barron's/John B. Levy & Co. National Mortgage Survey. The lower rates were caused by lower Treasuries, while spreads - the difference between mortgages and Treasuries of the same term - showed little change. The Barron's/Levy Prime Mortgage Rate for a 10-year loan based on a 70% to 75% loan-to-value is now 83 3/4% vs. 9 1/8% only last month.

The Mortgage Bankers Association held its annual commercial mortgage convention in February and it was, by all accounts, an extraordinarily upbeat affair. Virtually every institutional lender in attendance delivered a "pep talk" to its correspondents urging their help in meeting higher production targets for 1995. On average, lenders are expecting to increase their production of commercial mortgages by 20% to 25% this year. But there is very little new product being built, so institutions are trying to aggressively corral any business that comes their way.

On the spread side, there does not appear to be much room for spreads to contract further. Loans which are in the 70% to 75% range are now garnering spreads in the 1.4% to 1.5% range. But bring a low-leveraged loan to market, especially if the leverage is below 50% of the property's value, and institutions will fall all over themselves to price it aggressively. More than a few institutions have made it known that, for these transactions, they are willing to cut their spread to 1%, or even lower if necessary, to capture the business. This lender aggressiveness, along with the recent decline in rates, has spurred more than a few borrowers to action. They reason that long-term, fixed rates as low as 8 1/4% have always been viewed as attractive by the industry, and they are eager to take advantage of them before they spur back upward.

Only a select group of institutions is taking a contrarian view of the "free-for-all" currently going on in the commercial mortgage business. These contrarians see the business as less attractive than it was a few short months ago due to deteriorating underwriting standards and dramatically lower spreads. These lenders have responded by cutting back their 1995 goals by at least 20%. But they are keeping their reduced goals very "hush hush" so that they have an opportunity to review as many transactions as possible.

The National Association of Insurance Commissioners (NAIC) has announced a "de facto" moratorium on rating new offerings of all real estate securities, with the exception of single-family residential transactions and credit-tenant leases. The moratorium is expected to give the regulators time to deal with the extraordinarily rapid changes in the industry and come up with policy guidance for the NAIC staff. According to Larry Gorski, chairman of the NAIC's Invested Assets Working Group, they hope to finish their work by july, though parts could be done even sooner. He noted that they will first attempt to deal with credit-tenant lease "near misses" and debt to real estate investment trusts. Gorski also stated that the NAIC is discussing proposals to reduce the risk-based capital requirements on commercial mortgages from 3% to 2%. These percentages are further adjusted for the experience factor of the insurer involved. A lower risk-based capital factor might encourage insurers to invest more in the commercial mortgage arena at a time when the industry is already swimming in money.

John B. Levy is executive vice president and principal of Republic Realty Mortgage Corp., Richmond, Va.

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