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HFF Research Update for June 26, 2015: A Balloon Below Water

Friday, June 26, 2015

Weekly insights on current research in the commercial real estate industry from HFF Managing Director of Research Jimmy Hinton. View Daily Rates on the HFF website or access the HFF Daily Rates App in iTunes.

Markets have been quite volatile, perhaps necessitating a second rates memo as we close the week. The associated impact on loan underwriting has been less than favorable.

Below I’ve mapped the 10-year UST against a 10-year index for each A and BBB corporates – the indices CIOs use for pricing mortgage bonds. The grey bars represent the average spread between the corporates and the 10-year UST.

Corporate spreads (unlike CRE capitalization rate spreads) are currently ~180 bps, relatively thin given they are ~80 bps inside of their long term average. As a result, absolute yields on corporate bonds are sensitive to movement in Treasury yields, which have risen sharply.

Economic Performance June 2015

When corporate bond yields move, it is likely mortgage rates will increase as well. And in this regard, I am talking about mortgage rates in the secondary market – i.e., loans already securitized.

When yields on secondary paper move, it can impact spreads on loans currently being underwritten. After all, CMBS paper is securitized in an effort to generate profit via yield arbitrage. If secondary yields are higher than originating yields, securitization desks can lose money.

This is the primary reason CMBS underwriters are increasing spreads at the moment. But this isn’t the entire story for borrowers/levered buyers.

SWAPs are rising too. The below screen grab (something we generate on the firm’s only Bloomberg terminal in Houston) shows the intraday yield on the 10-year SWAP over the past 60 trading sessions. The yield on the 10-year SWAP has risen ~45 bps since April 30 and, most recently, by about 20 bps since Monday morning.

Economic Performance Continued June 2015

About Jimmy Hinton

Mr. Hinton serves as Managing Director of HFF, responsible for the firm’s research efforts. Mr. Hinton works with the HFF Jimmy Hintonexecutive management team to assist in investor relations and to inform both HFF staff and firm clients with in-depth analysis of economic, property and capital market trends. He is also responsible for providing extensive market reports, client presentations and deal-specific analysis for debt placement and investment sales assignments. Mr. Hinton’s responsibilities include substantial interaction with pension funds, life insurance companies, regional and CMBS lenders, REITs, foreign investors and private equity funds.

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