Investors trying to scratch a living in a US commercial mortgage-backed securities market which eagerly awaits lower interest rates should go hunting in the secondary market rather than the primary.
There is simply too little new debt in new issues. It will likely be that way for the foreseeable future until a combination of falling borrowing costs and a recovery in the commercial real estate market spur substantial acquisition activity financed by new debt, which could be repackaged as CMBS. At the moment, these trends have begun, but they are just helping deals at the margins.
CMBS issuance has rebounded this year from 2023 lows. However, don’t buy into the surface story told by issuance volumes, which according to Finsight, are at $108bn so far this year, compared to 2023’s $85bn.
Out there in the primary market, there is little new debt CMBS debt to go around.
Refinancing has driven the primary market this year. Bank of America’s Global Research report from September 6 said that out of conduit and single asset, single borrower deals this year, refinancings had made up 80%.
These deals are not bringing any new supply to the market: investors are being paid back, and needing to plough their cash straight back into assets — such as the new CMBS.
Because of this technical squeeze, the primary market has been a food fight, with most deals over the past month — assuming they have clean profiles with clean underwriting — going many times oversubscribed.
Coupled with too little new CMBS debt, there is too much money chasing what bonds there are.
Spreads have reflected that this year, tightening like one way traffic, barring occasional market disruptions.
Spreads on A1 conduit notes, for example, according to Bank of America’s Global Research report from October 4, have tightened 35bp to 85bp this year.
In the secondary market, however, lies opportunity — for investors willing to do the work.
While the primary market is still the destination of choice for investors who want CMBS in scale or have strict credit committees and fund mandates, the secondary market offers freer spirits a change of pace.
They can find some reprieve from the crowding in the primary market, and a chance to spot — and seize — opportunities on assets the broader market will not touch.
But secondary bargain-seeking is not without its challenges. It requires deeper analysis of individual assets and wargaming workout scenarios.
Opportunities are there for those who can do the work to pinpoint the diamonds in the rough.
Some triple-B classes of select conduit CMBS from the 2019 vintage, for example, can be had at spreads of 1,000bp to 2,000bp over Treasuries, according to one investor.
For nimbler investors not hamstrung by fund mandates and credit committees, and with the capabilities to perform more detailed analysis, the secondary market is where the pickings will be.