Goldman Sachs’s Glass-Half-Full CMBS Pace Rally: Credit Markets

Feb 12, 2014 11:22 am ET

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Feb. 12 (Bloomberg) -- As they marketed one of the biggest commercial-mortgage bond deals ever in June 2007, just as credit markets began to crumble, bankers at Goldman Sachs Group Inc. and Royal Bank of Scotland Group Plc handed out T-shirts depicting a glass it declared “half full.”

Six years later, after the $7.6 billion of securities plunged in the collapse of the U.S. property market that pushed loans included in the deal into default, the glass is filling up. Portions of the deal that have been cut to junk, which fell to as low as 16 cents on the dollar in 2008, have jumped about 5 cents in the past month to as high as 69 cents, according to traders and investors.

The bonds are rising after distressed real estate, including properties in the 2007 deal, sold in an auction for more than their most recent appraisals. The sale provides a glimpse of what to expect in the $550 billion market as loan servicers work through a pipeline of $66.6 billion of defaulted mortgages funding everything from Manhattan skyscrapers to shopping malls in Tennessee.

“In many cases the buildings are in fairly decent areas -- they were just overleveraged,” said Keerthi Raghavan, a debt analyst at Barclays Plc in New York, referring to properties sold in the recent auction. “This is a chance to wipe the slate clean.”

Blackstone, Starwood

Buyers including Blackstone Group LP and Starwood Capital Group LLC are snapping up real estate in a wager they’ll turn a profit as the economy rebounds, boosting values and recoveries for bondholders.

Starwood Capital, led by Barry Sternlicht, said in a Jan. 29 statement that it acquired 11 properties from the sale by CWCapital, a Bethesda, Maryland-based unit of Fortress Investment Group LLC that specializes in managing soured commercial mortgages that have been packaged into bonds. The $2.6 billion offering was the largest such sale on record.

The firm paid $191 million for the properties, about 23 percent more than indicated by the most recent appraisals, according to Barclays.

Surprise Factor

The acquisition “could be an indicator that valuations for other auctioned assets may surprise to the upside,” Barclays analysts led by Rhagavan wrote in a report last month.

Blackstone, the world’s largest private-equity firm, bought Texas’s Four Seasons Resort and Club Dallas at Las Colinas and a loan on New York’s 119 West 40th Street, an office tower overlooking Bryant Park, a person with knowledge of the transactions said.

The firm paid about 86 cents on the dollar for the hotel outside Dallas, while buying the mortgage on the 22-story office building for about 75 percent of the investment by the previous owner, according to people with knowledge of the transactions. The price for the Manhattan tower indicates a higher value than a September appraisal that valued it at $150 million, according to Barclays.

The 2007 deal from Goldman Sachs and RBS’s U.S. securities unit was linked to 315 properties across the U.S., of which at least 18 were offered in the auction, according to Morgan Stanley.

Spreading Optimism

As they marketed the transaction that year, the banks distributed the T-shirts as a way of bolstering confidence amid the emerging turmoil, according to three people with knowledge of the situation who asked not to be identified because they aren’t authorized to speak publicly.

In the same week the dealers priced the offering, Bear Stearns Cos. was seeking to shore up two hedge funds that were collapsing under the weight of souring subprime home loans. The lender, then the fifth-largest U.S. investment bank, was rescued in a bailout engineered by the Federal Reserve in March 2008.

Michael DuVally, a spokesman for Goldman Sachs, and Sarah Lukashok of RBS, declined to comment on the transaction.

The bonds are recovering amid mounting evidence of an improving real estate market, according to Lisa Pendergast, an analyst at Jefferies Group.

“In more cases than not, we have seen better results,” she said, referencing loss estimates on defaulted debt.

Price Gains

It will be more difficult to determine the prices for smaller properties that don’t attract a lot of bidders, potentially suppressing values, Pendergast said.

Price growth for properties in major markets such as New York and San Francisco has outpaced increases in smaller cities and towns. In the largest markets, values have climbed to 2.5 percent more than pre-crisis peaks, according to the Moody’s/RCA Commercial Property Price Index. Property prices across the U.S. are within 8 percent of the record reached in November 2007, Moody’s Investors Service said in a report yesterday.

It will probably take several months for results of all 67 assets disposed of in CWCapital’s auction to trickle out to bondholders, according to Barclays’s Rhagavan.

Transactions such as the Goldman Sachs and RBS deal are showing “better stability than the rest of the market” as the prices become clearer, he said.

--With assistance from Hui-yong Yu in Seattle and Nadja Brandt in Los Angeles. Editors: Shannon D. Harrington, Faris Khan