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Fitch confident about strength of UK commercial mortgages as security
Almost a tenth of investment grade bonds backed by UK commercial mortgages could default if the current slump in commercial property values reaches "severe" 1990s recession levels, ratings agency Fitch said yesterday.
The agency said a 15% drop in UK commercial real estate prices in the last nine months had prompted a study of how commercial mortgage-backed securities (CMBS) might react if property yields -- the rental income of a property relative to its investment value -- continued to rise.
The research suggested if the average-weighted UK commercial property yield climbed to 8.4% from today's average 5.45% level as measured by Investment Property Databank, around 9% of all CMBS bonds rated BBB or above would show losses.
But stronger-rated AAA bonds would fare much better, with less than 1% at risk of default in what Fitch described as a "severe" 1990s-style property market scenario, the study showed.
"The results were reassuring but we need to use them carefully because this analysis only looks at one part of the equation," said Andrew Currie, managing director of Fitch European Structured Finance. He said the study only considered UK CMBS performance in light of valuation yield movements, without possible falls in rental income.
The analysis covered 67 CMBS transactions, representing 263 loans with a total outstanding loan balance of £33.9 billion.
Fitch also tested how UK CMBS might stand up in other periods of market dislocation, varying in intensity from "extreme stress" to "moderate stress" and "mild stress".
In the "mild stress" market scenario, which Fitch said most accurately reflected current market conditions, the agency said no AAA notes were at risk of default and less than 1% of investment grade UK CMBS would suffer losses.
But if the ailing commercial property market continued to deteriorate and yields climbed to an "extreme" 10%, Fitch said up to a fifth of investment grade UK CMBS would be vulnerable to losses.
While Currie said the prospects for such an "extreme" market scenario were small, it was plausible that continued money market congestion and shaky investor confidence could ramp up market stress levels from "mild" to "moderate", echoing market conditions seen following the dot-com collapse in 2001.
If commercial property yields climbed to the 6.8% weighted average reminiscent of this period, Fitch estimated that less than 2% of investment grade UK CMBS would be at risk of losses.
According to data from benchmark provider Investment Property Databank, the current average All Property initial yield has risen to 5.45% since the peak of the UK market, when yields bottomed out at 4.57%.
The agency said a 15% drop in UK commercial real estate prices in the last nine months had prompted a study of how commercial mortgage-backed securities (CMBS) might react if property yields -- the rental income of a property relative to its investment value -- continued to rise.
The research suggested if the average-weighted UK commercial property yield climbed to 8.4% from today's average 5.45% level as measured by Investment Property Databank, around 9% of all CMBS bonds rated BBB or above would show losses.
But stronger-rated AAA bonds would fare much better, with less than 1% at risk of default in what Fitch described as a "severe" 1990s-style property market scenario, the study showed.
"The results were reassuring but we need to use them carefully because this analysis only looks at one part of the equation," said Andrew Currie, managing director of Fitch European Structured Finance. He said the study only considered UK CMBS performance in light of valuation yield movements, without possible falls in rental income.
The analysis covered 67 CMBS transactions, representing 263 loans with a total outstanding loan balance of £33.9 billion.
Fitch also tested how UK CMBS might stand up in other periods of market dislocation, varying in intensity from "extreme stress" to "moderate stress" and "mild stress".
In the "mild stress" market scenario, which Fitch said most accurately reflected current market conditions, the agency said no AAA notes were at risk of default and less than 1% of investment grade UK CMBS would suffer losses.
But if the ailing commercial property market continued to deteriorate and yields climbed to an "extreme" 10%, Fitch said up to a fifth of investment grade UK CMBS would be vulnerable to losses.
While Currie said the prospects for such an "extreme" market scenario were small, it was plausible that continued money market congestion and shaky investor confidence could ramp up market stress levels from "mild" to "moderate", echoing market conditions seen following the dot-com collapse in 2001.
If commercial property yields climbed to the 6.8% weighted average reminiscent of this period, Fitch estimated that less than 2% of investment grade UK CMBS would be at risk of losses.
According to data from benchmark provider Investment Property Databank, the current average All Property initial yield has risen to 5.45% since the peak of the UK market, when yields bottomed out at 4.57%.
Thu, 29th Jul 2010