Markets are still buzzing over S&P’s proposed new ratings model for commercial mortgage-backed securities, or CMBS, and its consequence for the Talf.
Here’s the latest, from Reuters:
NEW YORK, June 9 (Reuters) – A Federal Reserve program to boost lending in U.S. commercial real estate can survive potential credit ratings downgrades on commercial mortgage-backed securities, though on a smaller scale than envisioned, Craig Sedmak, a managing director in CMBS trading at RBS Securities, said on Tuesday.
Sedmak’s comments come after Standard & Poor’s shocked the $700 billion CMBS market this week by advising that a vast amount of top-rated bonds face ratings downgrades based on a proposed change in rating models.
The cuts are seen as a threat to the Fed program since the central bank currently requires the bonds carry only “AAA” designations to protect its interests.
Sedmak is one of the few commentators not fretting over the impact of S&P’s decision on the Talf, though he’s still worried about the rating agency “bifurcating” the market. Others, like Richard Parkus at Deutsche Bank and JP Morgan, are less sanguine — a feeling that seems to have seeped into the CMBS market itself. S&P itself said in late May that the proposed new ratings model would reduce the amount of 2005 and 2007 bonds available for the Talf by 52 per cent to $122bn.
As a reminder, the Fed announced it would expand the Talf to include high-quality CMBS issued before Jan 1, 2009, so-called legacy CMBS, back in May, after mentioning the possibility in March. The point was to jump-start the market for securities lending — helping the banks that hold such CMBS and stimulating new credit. The eligible securities were to have at least two triple-A ratings from the major ratings agencies, in order to protect the interests of the central bank and the US taxpayer.
From the chart below, you can see that from about March onwards, AAA-rated CMBS prices shot up rather dramatically (well, relatively dramatically – what you can’t see from the chart is just how depressed CMBS prices still are compared with say, a year ago). But since the Fed’s announcement on May 19 confirming only AAA-rated securities would be eligible for the programme — and the subsequent May announcement from S&P — they’ve resumed their decline.
There’s an obvious solution to this problem. If the Fed’s determined to purchase legacy CMBS in significant amounts, it can simply lower the eligibility bar for the Talf programme. That probably wouldn’t be a big deal for the central bank, given that ratings don’t seem hold that much water nowdays anyway. The perception perhaps is that few US taxpayers are likely to know – or perhaps care about – the difference between AAA-rated and AA-rated securities, in any case.
On a more facetious note, the banks could always repackage their CMBS into massive Talf-targeted CDOs. Repackaging not-so-great assets into one big structured asset is a strategy that has worked well for the banks in the past, in terms of garnering higher overall ratings from the ratings agencies.
Related links:
S&P’s CMBS stress test – FT Alphaville
New fears over property debt – FT
S&P to downgrade most of 2005-2008 CMBS classes – Zero Hedge