Credit Suisse California Hotel CMBS Marks First Deal in 6 Years

Credit Suisse Group AG sold its first commercial-mortgage bond since 2008 with a $187 million deal tied to two beach-front hotels in Santa Monica, California.

Switzerland’s second-biggest bank is reentering the market as a surge in sales attracts new entrants, sparking concern lenders are loosening standards amid the competition. Credit Suisse’s last deal was an $887 million transaction in March 2008, according to data compiled by Bloomberg, three months before the market for securities tied to properties from skyscrapers to shopping malls shut down for more than a year in the wake of the financial crisis. 

Wall Street banks are poised to issue more than $100 billion of the debt in 2014 after sales doubled to $80 billion last year, Bloomberg data show. Loans contained in deals sold this year are “substantially weaker” than those backing transactions issued in 2013, Barclays Plc analysts said in a report this month. About $8.4 billion in CMBS has been offered since January.

Almost one-quarter of mortgages in 2013 offerings are based on incomes that are at least 10 percent higher than landlords reported during the previous 12 months, Barclays analysts led by Keerthi Raghavan said in the Feb. 7 report. So-called pro-forma underwriting allowed property owners to pile on more debt during the boom years leading up to the property market crash in 2008 on the assumption that future earnings would be higher.
New Department Zurich-based Credit Suisse, which tried to rebuild its origination team in 2011, fired 50 people in October of that year without completing a deal as Europe’s sovereign debt crisis roiled credit markets. The bank restarted the group again last year.

The lender, ranked by newsletter Commercial Mortgage Alert as the fifth most-active underwriter of CMBS globally when issuance peaked in 2007, is taking a cautious approach to new deals by avoiding the types of transactions that require lenders to hold as much as $1 billion of mortgages on their books for months, according to people with knowledge of its strategy.

This week’s transaction is backed by a mortgage linked to the Shutters on the Beach and the Casa Del Mar in Santa Monica, California, according to Morningstar Inc. Top-ranked securities maturing in seven years were sold to pay 85 basis points, or 0.85 percentage point, more than the one-month London interbank offered rate, according to a person familiar with the sale who asked not to be identified because terms aren’t public.

The Shutters on the Beach and the Casa Del Mar are the only two beachfront properties in Santa Monica, Morningstar said in a report earlier this month. In 2009, during the depths of the recession, revenue at the properties dropped about 19 percent, compared with a decline of 35 percent for comparable hotels, according to Morningstar.

Hotels are one of the most volatile commercial-property types as changes in the economic climate affect them almost immediately with rates resetting every night. In addition to the $183 million mortgage, the properties are carrying $186 million of mezzanine loans, according to Morningstar.

California commercial real estate bouncing back, expert says

While the commercial real estate markets appear to be improving, there is no shortage of distressed properties.

The status of commercial real estate markets in the nation, California and San Diego County was the topic of a California Commercial Alliance meeting Friday at the Manchester Grand Hyatt in San Diego.

Lou Lollio, commercial issues chairman for the California Association of Realtors, said he can gauge how well the economy is doing by the number of cranes he sees.

"We are even seeing this happen in the San Diego area," Lollio said.

Lollio, who said he has been through three recessions, cited a CoStar Group (Nasdaq: CSGP) report that said in a general sense, commercial markets should continue to strengthen for the next five to eight years.

Lollio said that while office properties tend to lag the other asset classes, they are becoming a very good buy.

"Institutional monies are significantly underinvested in these properties," Lollio said.

Oscar Wei, a California Association of Realtors economist, said that although office markets are improving, investors need to be aware of the shrinking amount of required space per employee.

Wei, who said the average amount of space per employee was 225 square feet in 2005, said this had dropped to 150 square feet by 2010 and will be about 100 square feet in 2015.

Although submarkets such as Otay Mesa are still experiencing a very slow recovery, Lollio said, he expects a major improvement in the industrial markets generally.

Wei agrees.

"Industrial space is what's up and coming," Wei said.

Wei said apartment sales have continued to boom -- climbing by about 14 percent year over year.

"There's a lot of pent-up demand in multifamily," he said, adding that the national apartment vacancy is about 4.1 percent, about the same as San Diego's, depending on the survey.

As for retail, Wei said leasing is strong in the high end and the low end of the spectrum, but those in between have continued to suffer.

"The middle has just been stagnant," Wei said.

Commercial real estate markets may have improved generally, and the number of lender-owned properties may be significantly less than a couple of years ago, but Ray Mclaine, CEO of the Commercial REO Brokers Association, warns that these numbers are going to climb again.

While it might sound troubling that REO sales will increase, Mclaine likened it to what has been happening on the residential side.

"Banks didn't follow the rules," he said, adding that he saw markets where there would be 500 lender-owned homes for sale one year and 125 bank-owned homes the next.

"They just pulled these homes off the market," Mclaine said.

He said despite all the concerns about Commercial Mortgage-Backed Securities, "commercial REOs never came to market as anticipated."

Mclaine said the commercial properties "will get caught up in 2015-2018. 2014 will be one of the largest REO sale years for a while."

He said along with a pent-up supply of REO properties the activity will be boosted by the fact that at least $300 billion in troubled CMBS loans that are scheduled to mature the next three years.

"About 40 percent of these are underwater," McLaine added.

Jon Coupal, CEO of the Howard Jarvis Taxpayers Association, came to the session to blast any type of split roll tax. An example of such a tax is AB 59, by Democratic Oakland Assemblyman Rob Bonta, which would allow a school district to impose different parcel tax rates depending on whether a property is residential, commercial or industrial.

SCA 3 by state Sen. Mark Leno, D-San Francisco, would allow school districts, community college districts and county offices of education to impose, increase or extend parcel taxes with a 55 percent threshold rather than the two-thirds requirement under the current statute.

Coupal, who contends that California would be in worse shape if Proposition 13 weren't approved in 1978, argues that split-roll proposals such as these are the greatest threat to Howard Jarvis' tax measure since its inception.

"The public was asked whether the protections provided to residential properties should be extended to commercial, and the voters said ‘yes,’” Coupal said.

Coupal added that since Democrats have a supermajority in the California Legislature, it also would be easy for them to lower required threshold for a tax from the current two-thirds majority to 55 percent.

"This would be a real sock to commercial properties," Coupal said. "It would also be an administrative nightmare."

Burbank to Brookline Soar in Shift to U.S. Suburbs: Real Estate

Jan. 7 (Bloomberg) -- Clarion Partners LLC, a real estate owner overseeing almost $30 billion, made millions buying Manhattan office buildings and towers in Seattle and Houston after the U.S. property crash began six years ago. It’s now moving to the outskirts of big cities.

“Investors see high quality just outside major metros,” said Tim Wang, head of research at Clarion, which acquired buildings in Arlington, Virginia, and Brookline, Massachusetts, last year. “As the recovery broadens in 2014, you’ll see more capital flowing into secondary markets and select suburbs.”

Commercial properties from Brookline to Woodlands, Texas, and Burbank, California -- areas just beyond major markets -- are selling at premiums to real estate in cities such as Boston and Los Angeles. Sales in top suburbs surged to more than $25 billion last year, and the spread in capitalization rates, a measure of yield used by real estate investors, was the widest in 13 years relative to all U.S. transactions, according to Real Capital Analytics Inc.

“These are places where companies are hiring and the new economy is forming, centers of gravity that feed on themselves,” said Dan Fasulo, managing director of the property-research company, which compiled pricing data on more than 105 suburban ZIP codes for Bloomberg News.

Office-building prices in top suburbs rose 4.7 percent last year to $311 a square foot, just 7 percent below the 2007 peak and showing a rebound “in the fourth or fifth inning,” Fasulo said, referring to the midpoint of a baseball game. High-end retail values reached $489 a square foot, a record level that’s still a discount to new construction, said Bill Whalen of New York-based Cantor Commercial Real Estate.

Debt Available

“Fear seems to have gone away from the market,” said Whalen, head of the commercial mortgage-backed securities lender’s San Francisco office. “There’s plenty of debt and equity capital.”

Cap rates for transactions in top suburbs were 5.8 percent last year, compared with a U.S. average of 6.9 percent. The difference of 110 basis points was the biggest since 2000, and probably will grow as the economy improves, Fasulo estimates. A cap rate is calculated by dividing a property’s net operating income by its purchase price, so it moves down as values rise.

Deal volume jumped from $17.7 billion in 2011, when the cap-rate spread was 73 basis points, according to New York-based Real Capital. In the years after the financial crisis, primary U.S. markets were seen as less risky bets than suburbs and drew the bulk of investment until downtown yields became so unattractive that buyers began seeking opportunities further afield, Wang said.

Investor Migration

Sales figures were compiled from deals since 2000 that were priced higher than $10 million and $250 a square foot and located outside of core U.S. markets New York, Boston, Washington, Chicago, Los Angeles and San Francisco, along with Miami, Houston, Las Vegas, Phoenix, San Diego, Seattle and Austin, Texas -- cities “where the new economy is moving,” Fasulo said.

Investor migration from cities makes sense after a 32 percent jump in downtown office prices since 2010 pushed up costs for tenants as well as buyers, Fasulo said. Occupancy in U.S. suburbs overall gained 1 percent last year to outpace a 0.1 percent increase in central business districts, according to a separate study from Los Angeles-based brokerage CBRE Group Inc.

'Beaten Down’

Suburban offices were “beaten down” in the multiyear focus on downtown assets and should gain favor in 2014 as the Federal Reserve raises interest rates and scales back its bond- buying program, known as tapering, New York-based analysts at BMO Capital Markets led by Richard Anderson wrote in a Jan. 2 note. Higher loan costs will erode returns and lead more buyers to seek opportunities away from cities, Wang said in the interview.