Blue Vista’s Townsend sounds alarm on emergent CRE CLO market

The balance sheet lender has no plans to securitize its loans.

Blue Vista Capital Management is watching the rising commercial real estate collateralized loan obligation market with some trepidation as the Chicago-based real estate debt manager cites concerns that include an increase in leverage and the potential for higher-than-anticipated risks with some of the underlying loans.

The firm, which has invested more than $11 billion since its inception in 2002, is a balance sheet lender that eschews securitization, offering borrowers first mortgage bridge loans on transitional properties. The decision to avoid securitizing its loans is one the firm is planning to stick with, Shawn Townsend, a Blue Vista managing director, told Real Estate Capital USA.

“There are pros and cons, constraints and issues, as we watch the re-emergence of the CLO space,” Townsend said. “As we watch the re-emergence of the CLO space, in concert with the growth of debt funds, Blue Vista made the conscious decision not to follow suit.”

One reason is because of the transitional nature of the underlying collateral. “When managing transitional bridge loans, there are a lot more moving pieces and unpredictable situations that arise that make it harder to manage through a rigid securitization structure,” Townsend said.

Correlation to fixed income

The CRE CLO market seen about $33 billion of issuance this year, a big jump from the roughly $20 billion seen in 2020. According to October data from Bank of America, CRE CLOs are on track for a record year and could reach $45 billion to $50 billion of issuance. This level is an increase from the $35 billion to $40 billion Bank of America had projected earlier in the year, the bank stated in a report.

As issuance rises, Townsend is worried about more than leverage as more originators use CRE CLOs as a financing mechanism.

As [CRE CLOs] gain more market share, this introduces more capital markets risk to the commercial real estate debt space as more of the real estate credit markets become correlated to the overall fixed income market. [This] introduces potential liquidity, price, and valuation risk that impairs the ability to manage a book of commercial mortgage loans,” Townsend said. “We [also] just didn’t believe the evolution of the CLO was very well aligned with appropriately managing the underlying risk of the collateral [for value-added loans].”

A lender who is originating for a CRE CLO has a different risk profile than a balance sheet lender, Townsend said. “With such a high correlation to the credit markets, that if there is a blip with that much leverage driving that type of private capital, it will have a greater impact, in terms of short term or intermediate marks, or spread mismatches,” he added.

Still, there are reasons to be optimistic. The firm has seen its loan portfolio hold up well and Townsend is particularly excited about making more moves in secondary cities.

“Blue Vista has been traditionally a middle market investor, and so most of our footprint is outside of the gateway cities,” said Townsend. “[This] has emboldened and improved a lot of the secondary markets that we’ve long been very active in.”

Distress in core CBDs like New York, Chicago, San Francisco and Los Angeles has resulted in demographic population shifts to secondary markets. “This has been fueled in part by the hybrid work modeling that is here to stay,” Townsend added. “Our footprint gives us a pretty good leg up, and we’re excited about taking advantage of that.”