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Until news of the Sierra Vista foreclosure broke, few people around the Valley had heard of LNR. But the company is better known in commercial real estate circles.

LNR is the world’s largest so-called “special servicer” of commercial mortgage-backed securities — known in the industry as CMBS. The CMBS market is often where the biggest commercial real estate deals are financed.

Special servicers like LNR acquire CMBS loans when they go into default. In the case of Sierra Vista, LNR continues to own the property. But oftentimes, special servicers repackage the loan and resell it to another group of investors.

Heading into the second half of 2016, many commercial real estate watchers are predicting the CMBS sector, which has suffered through several recent down years, could be poised for a comeback. But that rebound could be threatened, a number of analysts caution, if the Federal Reserve board hikes interest rates again at their June meeting.

During the fist quarter of 2016, the pace of large commercial real estate deals around the Valley slowed considerably from the record-setting numbers posted in 2015. One factor impacting the slowdown has been instability in the CMBS market.
“So far this year, we have not seen the same trajectory of sales volume that we saw at the end of 2015,” said Brett Visintainer, senior vice president of the investment division at Newmark Grubb Pearson Commercial.

Matt Renney of California Realty Capital, a Fresno-based mortgage banking firm and one of the area’s most active players in the CMBS market, agrees.

“There’s a lot of volatility in the [CMBS] product right now, especially with all of the uncertainty created by Fed speak,” he said.

Renney said that in order for CMBS-type financing vehicles to attract investor interest, they have to be competitive “in terms of rates, terms and structure. The whole CMBS model has gained and lost traction” in recent years, he added, especially as large banks like Wells Fargo have rolled out similar competing products.

Like many, Renney believes the future viability of the CMBS market hinges on interest rate stability — or the lack thereof.
Backed by commercial rather than residential mortgages, CMBS deals tend to be both complex and volatile.

In recent years, CMBS special servicers like LNR have seen their portfolio volumes decline as loan delinquencies dropped, according to Morningstar, which tracks the CMBS market.

Since 2014, many special servicers have had to cut staff and trim their operations but this year, according to Morningstar, those firms could see a significant uptick in their portfolios as a large number of pre-2009 CMBS loans begin reaching maturity.

During the remainder of 2016, $52.42 billion in CMBS loans are due to mature and another $99.47 billion come due in 2017, according to Morningstar, which predicts it will become more difficult for many of these loans to be refinanced because the “rosy” underwriting practices employed before the 2008 financial crisis are no longer in play today.

A recent uptick in CMBS interest rates caused one deal Visintainer was working on to fall apart. “I had a $10.4 million listing and an offer came in [earlier this year] about $1 million lower than asking,” he said. “When I asked the investor why the offer was low, they told me it was because the CMBS market rates are higher than they were in 2015.”

Had CMBS rates not ticked up earlier this year, Visintainer said the investor “could have come up with another half million or so.”

But rates in the CMBS market have since come back down, and Visintainer is hopeful the market will remain stable at these levels.

“If rates increase by 50 or 100 basis points” over the next year or 18 months,  “that’s going to impact a lot of people’s ability to refi,” he added.

Real Capital Analytics, a firm that tracks investment sales across the country, reported a decrease of 20 percent in transaction volume when comparing the first quarter of this year to the first quarter of last year.

“And there was a 25 percent year-over-year drop in March and a 39 percent drop in February,” Visintainer said. “These are significant double digit drops.”

“Keep in mind however that over the last 10 years there have only been two times when first quarter sales volume was over $100 billion [nationally],” Visintainer added. “2016 is the third [time]. That is a good thing. A lot of the sales in 2015 were from large portfolios, which we are not seeing as much so far this year.”

So even with some investors concerned about buying at record-low cap rates, especially in the country’s major metropolitan markets, Visintainer believes there are “still opportunities in markets like the Central Valley for investors to achieve higher yield.”

“Low interest rates make for great leveraged returns in markets like Fresno,” Visintainer said. “There are not many places for investors to get the returns or appreciation found in real estate.”

According to the RCA report, current cap rates around the Valley and in other secondary and tertiary U.S. markets are averaging about 100 basis points higher than in the major U.S. metropolitan markets.

Like many others who remain bullish on the sector, Visintainer believes real estate will continue to be the “preferred” investment alternative.

 “There are still a lot of buyers on the sideline with capital to place,” Visintainer added, predicting that if the debt market remains stable, “then it is likely investors will dive back into real estate — and the first quarter might just be a hiccup.”