Buyers for CMBS Market?

by: Todd Sullivan

It would appear that some bottom fishing may be happening in commercial real estate finance.

Reuters Reports:

NEW YORK (Reuters) - Several large investment firms are creating new lending companies that plan to go public to raise billions of dollars to take advantage of the distress in the commercial real estate market, and more are on the horizon.

The planned IPOs, which include units of firms like Apollo Management APOLO.UL and Alliance Bernstein Holding LP, could be just the beginning of what some bankers expect to be a boom in Real Estate Investment Trusts (REITs) going public over the next few years.

The U.S. commercial real estate market has been reeling ever since a prime source of financing, the commercial mortgage-backed securities (NYSEARCA:CMBS) market, virtually closed and banks shut off their lending spigots in the past year.

"In the real estate world, the next few years will be defined by a lack of capital," said Michael Knott, a senior analyst with Green Street Advisors.

According to a recent Deutsche Bank report, as much as $40 billion will be needed to salvage about $420 billion of CMBS mortgages maturing over the next 10 years.

More recently, the sector has grappled with falling rents and rising vacancies driven by the recession.

The dislocation in the real estate and CMBS markets has prompted several top investment firms to create REITS that will aim to buy up, manage and originate commercial real estate loans.

"As assets start to come on the market and distress in commercial real estate increases, REITs will be the buyer of choice, and they will get bigger and bigger," said Brad Smith, managing director for equity capital markets at Bank of America Merrill Lynch.

With significant amounts of mortgages coming due in the next three years, there will be demand for loans that traditional players such as banks have been unable or unwilling to make.

In the past two months alone, eight REITs have filed for IPOs seeking to raise up to $3.9 billion, a larger pipeline than that of traditional IPOs, according to Thomson Reuters.

For instance, an affiliate of private equity firm Apollo Management last week filed for a $600 million IPO to take advantage of what it called a "void of several hundred-billion dollars" that must be filled by new mortgage lenders.

The newly formed companies were set up as REITs, a tax structure that exempts companies earning most of their revenue from either rent or mortgages from paying taxes on their taxable income if the company distributes 90 percent of that to shareholders.

For REITs with large debt rollovers coming due, anything that begins to shake the market loose, now at a standstill, will be very welcome. What remains to be seen is what investor appetite for these IPOs ends up being.

It ends up making it feast or famine scenario. If the IPOs get big interest, the simple sentiment boost would rally the market. Should they not, one can easily see despair setting in rather quickly.

Too soon to tell what the impact will be but one has to pay attention to it.