Restructuring CMBS Loans Just Got Easier

Story from the Wall Street Journal

The Treasury, responding to the growing pain in the commercial real-estate industry, released new tax rules that make it easier for distressed property owners to restructure loans that were packaged by Wall Street firms and sold as securities.

Most in the real-estate industry, which lobbied intensely for the move, applauded the action. But some warned it has opened a Pandora's box, especially for servicers of the securities who will likely come under new pressure from borrowers and competing classes of investors.

The move is the first round of "additional guidance" the Treasury is weighing to stave off what many fear will be a commercial real-estate crisis, according to people familiar with the matter. A Treasury spokesman declined to comment. A record of more than $150 billion of loans bundled into commercial-mortgage-backed securities, or CMBS, will come due between now and 2012. But as financing remains scarce and values of offices, strip malls, hotels and other types of commercial property continue to drop, more property owners are finding it hard to refinance debt as it matures.

The Fashion Show Mall in Las Vegas.
The mall's owner said a lack of financing flexibility hurt it.

Until now, tax rules have made it difficult for borrowers who are current on their payments to hold restructuring talks with the servicers of these bonds. Developers and investors complain that only those who are delinquent can talk to the servicers. Indeed, many property owners -- notably mall giant General Growth Properties Inc., now in bankruptcy protection -- have cited this lack of flexibility as one of the reasons for having to default on debt and give up properties.

The new guidance from the Treasury makes it clear discussions involving lowering the interest rate or stretching out the loan term "may occur at any time" without triggering tax consequences. In addition, the guidance allows servicers to modify loans regardless of when they mature. The servicer only has to believe there is "a significant risk of default" even if the loan is performing, the guidance states.

"A stalemate now exists on CMBS loans that are not currently in default but need modification," said Jeffrey DeBoer, chief executive of the Real Estate Roundtable, a lobbying body for property owners and investors. "Today's announcement should help break the stalemate."

But some investors holding CMBS bonds are watching nervously because loan modifications, known as "mods," mightn't always be in their best interest. CMBS have junior and senior pieces, and the senior holders may be in a better position, when a borrower defaults, to foreclose and liquidate the property rather than modify the loan. Junior holders, on the other hand, might benefit from a mod because they mightn't get their money back in a forced sale.

"The standards of care for services are to all bondholders," says Patrick Sargent, president of the Commercial Mortgage Securities Association, a trade group.

In general, servicers are required by their contracts to act in the interests of the investors and modify loans only when that can be expected to reduce losses. That puts servicers in the tricky position of trying to figure out which borrowers are basically sound and when it makes more sense to foreclose quickly.

"The biggest concern is that the guidance could open the floodgate for everyone to try to get some sort of loan modifications," said Aaron Bryson, a CMBS analyst at Barclays Capital. "There is a tremendous burden on the servicers to uphold their end of the bargain."

Still, the move by the Treasury reflects the deep concern in government and industry circles over the problems looming in the $6.5 trillion market for commercial real estate. Just as the U.S. economy is struggling to regain its footing, defaults are mounting because of credit-market turmoil, along with declining property cash flows and plunging property values.

In the meantime, the Treasury also is considering "additional guidance" aimed at fending off a potential wave of defaults as more commercial mortgages come due, the people with knowledge of the matter said. The real-estate industry has been pressing for a tax law change that would encourage more foreign investments in commercial property.

Until now, property owners and investors hoping to restructure troubled mortgages were hearing a tough message from most CMBS servicers: We can't talk to you unless you first fall behind on payments. This is because when CMBS offerings are created, the underlying mortgages are legally held by tax-free trusts. The trusts could have been forced to pay taxes if the underlying loans were modified before they became delinquent, according to the old CMBS rules. The new guidance applies to CMBS loans modified on or after Jan. 1, 2008.

In a study for The Wall Street Journal, Trepp, which tracks the commercial real-estate market, found that, year-to-date, 528 CMBS loans valued at $4.7 billion weren't able to refinance when they matured. About 75% of these loans were backed by properties that were throwing off more than enough cash to service their debt.

Fed Likely To Continue Buying Mortgage Instruments

Story from the Wall Street Journal

WASHINGTON -- The Federal Reserve, which convenes its policy meeting next week, is likely to stay the course to buy $1.45 trillion in mortgage-linked securities despite potential resistance from a few regional Fed presidents.

Central-bank officials plan to discuss winding down those purchases over the coming months to limit disruption to the market when the buying comes to an end.

Some regional Fed policy makers have suggested the Fed might halt the program before it finishes its purchases of $1.25 trillion in mortgage-backed securities and $200 billion in Fannie Mae and Freddie Mac debt announced in the past year. But they are a small minority across the Fed system.

Top Fed officials believe such a move would tighten overall monetary policy at a time when they still worry about the durability of the economic recovery. The Fed has completed about two-thirds of its purchases, almost $1 trillion worth, and is likely to complete the rest unless prospects for the economy improve radically in the coming months.

At the Federal Open Market Committee's Sept. 22-23 meeting, the central bank's policy makers -- including the 12 regional Fed presidents -- will assess the early signs of improvement now taking shape across the economy. Officials are encouraged by the rebound in financial-market conditions and initial indications that the housing market is pulling out of its deep dive.

But they are hesitant to bank on a strong recovery. The sizable growth expected in the third quarter is due in part to short-term effects such as companies replenishing inventories and the government's "cash for clunkers" auto-rebate program. Higher saving by households is casting doubt on consumer spending. And even the moderate growth that Fed officials expect next year wouldn't be enough to bring down the unemployment rate substantially.

"The economy seems to be brushing itself off and beginning its climb out of the deep hole it's been in," San Francisco Fed President Janet Yellen said in a speech Monday. "But I regret to say that I expect the recovery to be tepid. What's more, the gradual expansion gathering steam will remain vulnerable to shocks."

The economy has so much slack that officials expect core inflation -- excluding food and energy -- to drift lower next year. Barring a surge in commodity prices or inflation expectations, most Fed officials see little reason to raise interest rates from near zero in the first half of next year as futures markets have forecast recently.

The Fed's next key decision is how to wind down its program to buy mortgage-linked securities and to assess its effect on mortgage rates as that occurs. The central bank now accounts for all but a sliver of the market for mortgage-backed securities, crowding out private activity and raising doubts about how the market would function without government involvement.

At their August gathering, some Fed policy makers believed that a "tapering" of those purchases beyond their scheduled conclusion in December "could be helpful in the future as those programs approach completion," according to minutes of the meeting.

Two weeks later, Richmond Fed President Jeffrey Lacker said in a speech that he "will be evaluating carefully whether we need or want the additional stimulus" that purchasing the full announced amount would provide.

But another policy maker, Chicago Fed President Charles Evans, said he expects the Fed to carry out the entire amount of purchases. Other Fed officials share that view, worrying about the Fed breaking from a commitment the market is counting on. The central bank's program has pushed mortgage rates down substantially over the past year, helping to spur the housing market and support the overall economic recovery.

How much mortgage yields rise when the central bank ends its purchases will depend in part on how the Fed communicates its plans and how private investors respond.

Policy makers are considering two main views of how the central bank's involvement influences mortgage rates: by its total stock of mortgage-backed securities, or by the flow of its purchases.

Under the stock view, the fact that the Fed maintains large holdings of mortgage-backed securities is the key factor in keeping mortgage rates down. In that case, how the Fed ends its purchases wouldn't matter.

Under the flow view, the liquidity effect from continuing weekly purchases from the Fed is key to keeping mortgage rates low. Stopping abruptly could push rates higher in the short run.

Tapering the purchases would be a compromise between those views that gives the market time to adjust to the Fed's changing presence. And it would give Fed officials a chance to assess the effect of changing the flow of purchases on mortgage yields.

The Fed expects some increase in mortgage rates, and that alone would be a form of tightening financial conditions. Doing that slowly could help policy makers assess when to start using their other levers -- such as the payment of interest on reserves held by banks at the Fed or the federal-funds rate -- to tighten overall policy.

Where Real Estate Seems To Be Bottoming Out

Story from Forbes

There's more to indicate that the housing recession has hit bottom than Thursday's dual announcements that housing starts rose 1.5 percent from July, and new jobless claims dropped by 12,000 last week.

Homeowners looking to sell are also putting the brakes on the trend of aggressive price cuts, indicating that the real estate market may be closer to salvation than previously thought. In 20 major U.S. housing markets, the percentage of homes that have suffered price reductions is dropping.

Thirty-nine percent of for-sale homes in 20 major U.S. metros have had their prices reduced. That's a drop of six percentage points, from 45 percent at the beginning of the year, according to data provided to Forbes by Altos Research. That the number of for-sale homes with startling cuts has dropped is a sign that the real estate market may soon reverse its downward slide.

"The percent of homes on the market with price reductions is a really insightful indicator of organic levels of demand," says Michael Simonsen, chief executive of Altos Research. "As this number is dropping, there's improving demand at current prices."

Real estate agents and homebuyers have gotten used to a market cluttered with homes whose price expectations have tumbled back down to earth. Currently, a $1.3 million 1950s home in central Washington, D.C., has 42.2 percent shaved off its original asking price. A designer mansion in Los Angeles may seem exorbitantly priced at $16.9 million, but that's 32.4 percent less costly than it was eight months ago. And a modest but presentable Vegas two-bedroom is going for a song at $65,000 —55.8 percent less than its original quote.

Believe it or not, this is all good news. While shrunken quotes like these crop up far more frequently now than they did two years ago, these are only a few standouts in major metro areas that, by and large, are starting to see a reversal of the price-slashing trend.

Behind the numbers

Although the numbers are still high — 40 percent of Phoenix homes have been discounted, compared to single-digit numbers in previous years — the dramatic reduction in price cuts here is a sign that buyer demand is rising to meet the excess of supply that was caused by irrationally exuberant building practices earlier in the decade.

The cities with the highest number of reduced-price homes are Minneapolis, Seattle and Portland. Although the percentage of on-sale homes in these cities has dropped by 7 percent, 6 percent and 4 percent respectively since Jan. 1, these metros have price reductions on nearly half of all homes on the market.

While in Minneapolis, this may be a product of deeply rooted economic troubles facing manufacturing economies in general, in Portland and Seattle, the high number of priced-to-sell homes more likely reflects the excess housing inventory that the housing bubble brought to the West Coast. While Portland and Seattle were included in the Altos analysis, they were not among the ten cities with the biggest improvements in the percentage of home price reductions.

To find out where home prices are showing signs of recovery, Forbes used data produced by Altosresearch.com, a Mountain View, Calif.-based research firm that tracks the percentage of homes on the market that have seen price reductions. Altos watches these numbers for 20 Metropolitan Statistical Areas: geographic entities defined by the U.S. Office of Management and Budget, for use in collecting statistics. These MSAs were chosen based on the cities used for the S&P/Case-Schiller 20-city home price index, which is used to track U.S. residential real estate trends.

The news is best in Las Vegas, Phoenix and Miami, markets that saw the steepest price inflation a couple of years ago. In these places, the number of cut-price homes is down 24, 18 and 12 percentage points since Jan. 1, respectively.

Cities like Cleveland and Dallas, however, have yet to see major improvement. The percentage of homes with lowered asking prices has stayed flat in the last nine months, at 38 percent and 44 percent, respectively. In Cleveland, this could mean that loosening of bank credit, increases in buyer confidence and effects of the government stimulus haven't successfully tipped the supply/demand balance, so prices are still being slashed aggressively.

But while Dallas has seen a relatively high number of reductions, those reductions are not drastic; Dallas home prices will have dropped less than 1 percent for the year by the end of 2009, according to data from Moody's Economy.com.

The bottom line

On the whole, these numbers show that excess inventory may be thinning — with real estate agents confidently holding firm on their prices, sensing that buyers are tiptoeing back into the market. But this newly buoyant buyer sentiment may be partly due to the first-time homebuyers' tax credit, a measure enacted as part of the Obama administration's stimulus package that offers an $8,000 tax credit to those buying their first home.

The credit is due to expire on Nov. 30, and while lobbyists for realtors and homebuilders are fighting to extend and expand the benefit, if they are unsuccessful, demand may once again recede, and the number of half-price for-sale signs could once again creep up in many neighborhoods.

"There are more people in the marketplace, because a fair number of them have this $8,000 tax credit behind them," says David Crowe, chief economist for the National Association of Home Builders. "The demand will fall off when the credit expires, and that could cause a backslide in house prices."

A Buyer's Market For Commercial Properties In The Inland Empire

Story from The Sun

There's a bright side to the Inland Empire's depressed commercial real estate market: It's a great time to be a buyer.

That's only if your business has an A-plus financial track record.

Experts say local companies with the best earnings - and who've been renters for years - are naming their price when it comes to finally purchasing property to house their operations.

And for businesses looking to rent, their per-square-foot lease offers that landlords would've laughed at a few years ago are now dominating the market.

It's both a buyer's and renter's market, and business tenants will run into more alluring options going forward, according to one broker.

"I think `opportunity' will be the buzz word for 2010," said Matt Millett, senior associate at Coldwell Banker Commercial Lazar & Associates in Redlands, which brokers both office and industrial real estate.

There's so much space going vacant in San Bernardino and Riverside counties, rates are getting super competitive, and landlords are scrambling to retain tenants, whether they be furniture retailers, law firms, goods distributors or restaurateurs.

Sales prices have dropped so much that some landlords are breaking even or losing money when they sell off property.

It's going to take two to four years before the Inland Empire's oversupply of commercial space is sold or rented out, according to several brokers.

"Landlords are going to the tenants early on and saying, `What will it take to keep you here?'," said Thomas Galvin, research associate with Colliers International in Ontario, who studies industrial property trends. "But the tenant has no idea what a good deal is. They don't realize that if they poke around the market, they could save a lot of money by finding a different property."

Galvin's preliminary estimates show that the average purchase price for industrial space in east San Bernardino and Riverside counties will have plunged from a peak of $97 per square foot in second quarter 2007 to $61 in third quarter 2009 - a 37-percent drop.

So who's buying this real estate, anyway?

If they aren't local mom-and-pop manufacturers and retailers who've been nesting on a wad of cash, there's a good chance the buyers are Asian.

About 80 percent of commercial real estate purchases that Milo Lipson helped broker over the last year were deals where the buyer was headquartered in China, Taiwan, Japan or Korea, or they were Los Angeles-area based subsidiaries with parent companies in those countries.

"They've been using warehouses out here already, but now they're cutting the warehouse middle-man out," said the senior vice president of the industrial division at Grubb & Ellis's Ontario office. "They're buying these buildings at a discount and setting up their distribution hubs out here."

On the rental side, huge concessions are being made by landlords in the tug-of-war on lease rates.

Because square footage rates are so cheap, businesses are pushing for seven- to nine-year leases when their terms mature, Lipson said.

Instead, commercial real estate owners are rebutting those offers with proposals for two-, three- or five-year leases, where the landlords have the option of raising the rent to market value during the last year.

Lipson and Millett said they're seeing more deals secured over the last couple of months than they were in late 2008 and early 2009. The market was "dead" back then, they both said.

"It's picked up recently," Lipson said.

While it's not clear whether the market is hitting a bottom, "we've seen some positive signs lately," Millett said. "People are starting to peak out from under their rocks."

One fundamental change going forward: owner financing will continue gaining popularity, according to Rick Lazar, president of the Coldwell brokerage in Redlands.

It's tougher than it was a few years ago to secure credit lines from banks to buy office or industrial space.

But some of the same landlords willing to bend over backwards when it comes to price are also offering to lend businesses the money needed to secure a deal.

"There's no question it will play into the future when the opportunity presents itself," Lazar said. "It's going to get bigger and bigger."

New Arkansas Law Could Hinder Mold Detection, Home Sales

Story from Arkansas News

LITTLE ROCK — Arkansas homeowners could see a delay in the detection and removal of health-threatening, property damaging mold because of a possible shortage of inspectors that also could potentially slow home sales when new licensing requirements go into effect next year, industry officials say.

Few current home inspectors meet the qualifications set forth in the new law, and completing the requirements for state certification could take months, if not years, said Kyle Rodgers, president of the Arkansas Association of Real Estate Inspectors. He estimated that only about 15 percent of the association’s 300 members currently do mold inspections.

“The state is going to lose a lot of people who are providing a service to the people of Arkansas and there’s no easy, quick way of getting people to the training,” said Rodgers, who works for A+ Home Inspections in Siloam Springs. “We feel there are going to be parts of the state that are not going to be serviced by a mold inspector because there won’t be any licensed in that area.”

State Plant Board Director Daryl Little, whose agency is responsible for writing the licensing regulations, said he was aware of concerns about the law, set to go into effect Jan. 1.

“But we really don’t know how many people have those credentials and we probably won’t know until we start issuing the license,” Little said.

Rodgers’ association and the Arkansas Pest Management Association opposed the legislation approved by the Legislature this year, while the Arkansas Home Builders Association and the Arkansas Realtors Association did not take a position.

Currently, home inspectors and pest control personnel who spot suspected mold in homes and alert the owners without any specific certification. Act 1467 requires that all mold investigators be licensed and regulated by the state.

The law defines mold investigator as someone who, for a fee, “performs the service of examining residential or commercial buildings to confirm or refute the presence of a proliferative source of mold in a residential or commercial building.”

To be licensed, mold investigators, as the law describes them, will have to be certified as an industrial hygienist by the American Board of Industrial Hygiene; as a microbial consultant or indoor environmental consultant by the American Indoor Air Quality Council; or must successfully complete at least 20 hours of college-level microbiology.

The legislation’s sponsor, Sen. Sue Madison, D-Fayetteville, said she introduced the measure at the request of some Northwest Arkansas real estate agents who “felt like something should be done to keep all kinds of lay people from making pronouncements of mold in homes.”

Madison said the word “mold” has such a negative connotation that if used inaccurately, it can greatly affect property values.

“Anyone who makes such a determination … needs to be qualified,” she said.

Scott Bray, who manages the pest control section at the State Plant Board, said regulations to implement the new law should be completed next month and presented to the agency’s Pest Control Committee in late October. The regulations then would be presented to the Legislative Council’s Review Committee.

Home inspectors and termite inspectors say their job responsibilities will have to change because of the new law, which they say could delay information getting to perspective homebuyers.

“It’s a bunch of bureaucracy being added on unnecessarily,” said Hubert White, owner of Professional Property Inspections in Hot Springs.

White said he never tells homeowners he found mold but lets them know of the possibility, then sends samples to a laboratory in Arizona for testing, a process he said costs the homeowner up to $300. No one has questioned the accuracy of his mold sampling and use of the Phoenix lab during his eight years in business, he said.

“I won’t be able to give them that verification via sampling” under the new law, White said, adding that getting certified would be expensive, estimating it could cost up to $1,200. “And then there’s state registration fees. Who knows how much that could be?”

License registration fees for an Arkansas home inspector at the state Plant Board start at $150 a year, but the agency has not yet determined what the fee would be for a mold investigation license.

A termite inspector also will not be allowed to tell a homeowner of any potential mold problems they might discover while inspecting a home, said Mark Hopper, owner of Hopper Environmental Services in Mountain Home.

“We will not be able to tell anyone that they have mold in a crawl space because we will not be licensed or certified to identify it,” Hopper said. “The way the law is written now, our hands are tied when it comes to reporting mold.”

Bray said inspectors will have to make some adjustments under the law.

“I don’t think it’s going to affect what they do as much as they’re going to have to tweak their inspection process and they’re going to have make sure they don’t issue any statement that says you have mold in the house,” he said.

Stanford Financial Could Benefit From U.S. Tax Rule

As Posted to the Wall Street Journal

A 1.1 million-square-foot office property in Houston that got tangled up with disgraced financier R. Allen Stanford is in danger of not being able to refinance some of its debt when it comes due at year's end, according to Fitch Ratings. This positions it to be one of the first properties to take advantage of new U.S. Treasury rules designed to make it easier for owners of ailing property to restructure debt.

Mr. Stanford's firm, Stanford Financial Group, leased 160,000 square feet in the Galleria Office Towers, which made up Stanford's headquarters operations along with a Stanford-owned building across the street. Stanford has a four-year old lawsuit pending against the building's owner, an affiliate of private-equity firm Walton Street Capital. The suit alleges Walton breached an agreement to sell Galleria to Stanford for $150 million. Walton has disputed the charge, according to court papers.

Stanford Financial was put into a receivership earlier this year after Mr. Stanford was accused by the Securities and Exchange Commission of orchestrating a multibillion-dollar Ponzi scheme. Mr. Stanford is in jail in Conroe, Texas, awaiting trial. The federal public defender, whose office is representing Mr. Stanford, declined to comment.

The scandal has contributed to the Galleria's headaches by leading Stanford to cancel its lease. The property, which includes three office buildings, has seen its occupancy rate drop to 70.4% in August from about 90% at the end of 2008, according to Fitch. But even more serious, the property has $81 million in debt coming due at year's end.

Earlier this month, Fitch downgraded its outlook on $45 million of that debt -- which was sold as commercial-mortgaged-backed securities -- because the borrower warned the servicer of the debt that it wouldn't be able to refinance the loan when it matures.

But Walton may be helped by the guidance that the Treasury issued last week. It enables troubled borrowers to hold restructuring discussions "at any time" without triggering tax consequences, according to the guidance. Before this guidance was issued, it was difficult for borrowers to restructure CMBS loans unless they were in default.

Walton, founded by Neil Bluhm, didn't return phone calls requesting comment. Adam Fox, a senior director at Fitch, said that the landlord's recent warning to the servicer appeared to be a proactive move aimed at initiating restructuring talks. But Walton also could have other reasons for making the move.

The towers are part of a larger mixed-used complex that also contains the Galleria mall and a hotel. It is located in a part of Houston that is popular with financial companies and is sometimes considered to be the area's second central business district, according to Property & Portfolio Research Inc., a unit of CoStar Group Inc. The area's second-quarter office vacancy was 11.6%, below the metro area's 16.1%. But it is rising and landlords are being forced to reduce their rents to stay competitive, PPR says.

Stanford leased space in the building in 2004 and fit it out with some of the same lavish mahogany and brass details contained across the street in Stanford's own building. That four-story building, which includes a movie theater, is expected to be put up for sale by the receiver.

Stanford's lawsuit against the Walton affiliate was filed in 2005 and is being continued by the receiver. Walton earlier this month battled back by alleging that Stanford's effort to buy the buildings was part of the scheme that brought down the firm.

The SEC has alleged that one of Stanford's main businesses, Stanford International Bank, deceived investors by fabricating financial statements and lying about the performance of its investment portfolio. Real-estate investments played a role, the SEC charged. "Stanford International Bank's investment portfolio was not invested in liquid financial instruments or allocated in the manner described in its promotional material and public reports," according to the SEC complaint. "Instead, a substantial portion of the bank's portfolio was placed in illiquid investments, such as real estate and private equity," the complaint said.

Walton picked up on this theme in its response to Stanford's lawsuit. Stanford's efforts to buy the Galleria "is similar to the so-called fraudulent ... real-estate investments as well as related-party transactions that were used to inflate the value of Stanford Bank's balance sheet," a recent court filing by Walton stated. The receiver declined to respond to the Walton allegations.