Moody’s recently reported further deterioration of CMBS conduit loan underwriting using its internal loan-to-value (LTV) metrics. The experts at Moody’s Investors Service track the principal amount of CMBS loans compared with the property’s value based on applying an appropriate capitalization rate (cap rate) to the income produced at the properties. The average CMBS loan was 112.2% of the value implied by that income in the third quarter, according to Moody’s. That’s up from 108.3% in the second quarter.
“Transactions in our fourth-quarter transaction pipeline signal that credit quality is likely to slip further, to an average Moody’s LTV in excess of 113% ,” according to Moody’s. “At the rate that conduit loan leverage is increasing, Moody’s LTV will exceed its pre-crisis peak of 118% well before its 10th anniversary in third-quarter 2017.”
However, not all the underwriting news is bad. Bond rating agencies are also demanding that fewer CMBS bonds get the highest AAA rating. Credit enhancement levels for AAA-rated CMBS bonds are nearly double those in 2006 and 2007, which means they are more protected from potential losses, according to Fitch Rating, Inc. “CMBS originators on the whole are using more sensible assumptions … a positive development compared to what took place between 2006 and 2008,” said Huxley Somerville, managing director for Fitch.