Morgan Stanley researchers have reduced their 2016 base-case private label CMBS issuance projection from $100 billion to $70 billion, citing tighter financial conditions and widening spreads that are ‘likely’ to continue.
“The start of 2016 has been a bumpy road for CMBS to say the least,” Richard Hill and Jerry Chen wrote in their new State of CMBS Market report.
New issue spreads may have have widened to levels not seen in years — as much as 30 basis points on AAAs and 240 basis points on BBB-minus — but the levels were eclipsed on at least six previous occasions (not including the financial crisis), the report states.
“The current correction in CMBS AAA spreads is the longest on record, but it’s not pronounced compared to prior corrections and spreads remain an average of 20% below prior corrections,” the researchers wrote.
“This is the only period of time when CMBS AAAs weren’t at least as wide as IG corps. This correction in CMBS BBB- spreads is also the longest on record, but the magnitude isn’t unprecedented.”
The current widening is due to the weakness of the investment grade corporate bond market resulting from tighter financial conditions, they added, citing two additional key reasons they believe the trend of widening spreads will continue:
a) increased tiering across deals may lead to further widening “as the lowest common denominator prevails,” and b) “re-pricing of the risk premia to reflect that many CMBS 2.0 BBB- bonds are first loss, given our expectations of mid-to-high single-digit losses.”
However, “an eventual trough in the S&P 500 provides support for spread stabilization, making analysis of prior equity market corrections important.”
In a separate report, Trepp researcher Joe McBride provided some hope that ‘juicy yields’ could reinvigorate investor interest in CMBS, citing price talk on the new conduit MSBAM 2016-C28 at 165 bps and 700-725 bps for the LCF AAA and BBB- classes, respectively.
“It will be interesting to see if the juicy yields now offered by new issue CMBS will be enough to pull investors back into the market,” he wrote. “With relatively solid fundamentals and B-piece buyers exercising more power to kick out bad loans, investors may see some real value to be had in the AA and A rated tranches of new issues.”