CMBS 2.0 caveat emptor

CMBS 2.0 is a very tech savvy name. This is especially fitting as the Internet is perhaps the expanding market’s biggest challenge. Take for example the closure of Borders. Access to information via technological means no doubt contributed to the downfall of the bookstore. Amazon is also asking the state of California to do away with taxes on electronic purchases. The trend of driving consumers to the Web is a natural progression of the world’s growing use of technology. But, as with anything, progress comes at a great cost. This drying up of demand for physical retail space — Borders used to be the 44th largest commercial tenant in the country, according to Trepp data — is a clear warning sign for investors in CMBS 2.0, the next generation of commercial mortgage-backed securities. And it’s not just increased vacancies in large strip malls across America investors should be concerned with. There is also something to be said of Borders closing, as final bidding resulted in no offers, according to Standard & Poor’s. But this is not a warning for CMBS 2.0 entirely. Ethan Penner of CBRE Capital Partners, noted in a recent presentation that the CMBS market is on shaky ground overall. CMBS maturities are expected to nearly triple by 2017. Nearly 50% of these loans are underwater, a number that will grow to 75% by 2015, he noted. This is somewhat mitigated in the tighter underwriting and ratings methodologies seen in CMBS 2.0. But as the need to refinance outstanding debt grows, so will the need to service it via securitization. Yet, the macroeconomic fundamentals are not only shifting away from retail centers, but the recovery clearly cooled in the second quarter. Demand from discretionary spenders will remain weak and restricted by employment jitters and stagnant incomes. In such an environment, it is hard to envision economic engines kick starting much into next year. Meanwhile, home prices continue to decline and credit remains restricted. Economists continue to revise growth estimates downward. This is hardly a vote for greater consumer confidence in the absence of a third round of quantitative easing. CMBS 2.0 will continue to bull run. Demand will grow for medical complexes and multifamily housing. But when it comes to larger retail investments, CMBS 2.0 investors should choose carefully. Write to Jacob Gaffney. Follow him on Twitter @jacobgaffney.