BofA’s Todd sees new issuance pipeline grinding to a halt

The near-term impact of higher rates is already being felt in the US CMBS market.

In the wake of the largest interest rate hike from the Federal Reserve in nearly 30 years, the CMBS new issue market is largely in a holding pattern, according to Alan Todd, head of CMBS research at Bank of America. 

“We’ve seen the new issue pipeline, or those that are being originated for securitization, really grind to a halt,” said Todd.

Todd outlined how the higher interest rates are already contributing to much larger coupon payments for prospective borrowers, making them hesitant to go ahead with securitized financing.

“Coupons have gone from three-and-a-quarter about a year and a half ago, to almost 6 percent right now. You may have thought you could offer, just for the sake of argument, $50 million for a property. Now, given the increase in financing costs, maybe that number now is only $40 million,” he said.

Yet, with the Federal Reserve indicating potentially another six significant rate hikes in the near term, many borrowers are torn over whether to go forward with their plans now or face a much tougher environment later. It is coming down to specific standoffs between borrowers and lenders, seeing who might blink first.

“There’s been a slowdown in transaction volume as people kind of play the game of chicken to decide who needs to sell or who needs to buy more than the other,” Todd said.

Heavy fallout for new issuance market

With the exception of deals already priced and ready to go, Todd said he expects SASB to join the sluggish conduit market in severely reducing new issuance.

“You have deals that were already in the pipeline. I think those are going to come to market. I think it really depends on the extent to which M&A activity slows down or doesn’t slow down,” Todd said. “I’ve heard anecdotally that there are other dealers with larger warehouse lines who have tightened the parameters on those lines. I think CRE CLO issuance is probably going to slow as well.”

Larger than rates

Todd stressed it is not just rate hikes causing the market hesitancy, but the broader economic turbulence and damage rate hikes may cause. Such potential disorder is making pricing deals more and more difficult.

“There is also the concern that higher rates and the accompanying demand destruction that the Fed may have to do will result in recession, which could result in performance degradation and a change in cashflow, which would then also contribute to a change in pricing levels,” he said.

Yet, with inflation at 40-year highs, the central bank has little choice but to try its best to tame it, even if it causes capital markets like CMBS to slow to a crawl.

“They have to do something to bring demand down,” Todd said. “Rents are higher, housing prices are high. Maybe people can’t afford to rent or can’t  afford to live in a house and they’ve got to rent but there are unknowns that are out there and they’re largely predicated on what the Fed does.”

Overall, Todd does not see issuance, or the market as a whole, rebounding until multiple inflationary causes are brought to heel. And he is doubtful the Fed can do it all by itself.

“We’re negative on the market,” he said. “You have a supply chain problem and the Fed has no ability to control that. There is war in Ukraine, Russia; you have COVID lockdowns in China. The only thing they can do to try to rein in inflation is to bring down demand.”