Courtesy of Knowledge@Wharton

With so much media and federal regulatory attention focused on the
global credit crunch, especially the securitization of massive pools of
home loans, there has been little notice of what's been happening with
the market for commercial-mortgage backed securities, a younger cousin
in the structured finance family.

"It's pretty much gone," says Wharton real estate professor Todd Sinai, speaking about the current state of CMBS issuance. "The liquidity crunch is across the board."

The market for CMBS -- packages of pooled loans backed by mortgages
on office buildings, industrial properties, malls and other retail
centers, and apartment buildings -- has been ravaged by market
conditions since last fall. In the first six months of 2007, 39 deals
totaling $137 billion were brought to market and successfully sold,
from the highest rated (triple-A) bonds down to the riskier,
higher-yielding and lower-rated classes of bonds called B-pieces.
Through mid-July 2008, only nine deals totaling $12.1 billion have been
completed, a drop in issuance of more than 90%. No CMBS deal has been
completed since a $1.27 billion offering from Banc of America
Securities on June 19. There are currently no CMBS deals on the market.

Sinai believes there is little interest in the CMBS packages because
they include both very secure and very risky bonds at a time when the
market for the riskier elements is practically non-existent. Like their
residential mortgage cousins, the CMBS are packaged in tranches, or
layers, to offer protection for some buyers and higher yields for
others. Without a market for the high-risk, high-yield layers, the
overall package can't sell. What's more, Sinai says, for those deals
sold so far this year, prices have been based on very few transactions,
further distorting the market that had been steadily growing and
stabilizing during the past decade. Due to the inactivity, "You don't
even really know where the market is," Sinai adds. "All of the CMBS
issued this year [were underwritten] in 2007, and only got unloaded
this year."

CMBS prices have plummeted, while yields, as measured in basis
points over swap rates, have skyrocketed. As the CMBS market expanded,
investors drove up prices for 10-year triple-A rated bonds. In their
headiest days, in the three years leading up to summer 2007, those
bonds were yielding consistent and reliable returns for CMBS investors,
according to data from Commercial Real Estate Direct, an online news
and information service based in Newtown, Pa. But these same securities
are quoted today at prices that market watchers say are severely out of
proportion to their value. These prices, or "spreads," are the
difference between the swap rate on a bond and the yield on a
government bond of the same maturity, representing the risk associated
with the investment. The lower the number, the better the price (and
the tighter the spread).