On June 18th Freddie Mac finalized the sale of the first securities under their new Capital Markets Execution (CME) program. These securities were backed by over $1 billion in multifamily loans secured by 62 multifamily communities across the country. The securities consisted of a variety of classes each having different cash flow rights and different risks. The securities were sold to a variety of investors including large money managers, life insurance companies and pension funds. Does this sound familiar? It should, it’s very similar to the CMBS business that is in so much ill repute. However, while this is similar, it’s also different in some critical ways.
The reasons this is not your typical CMBS is because it’s being issued by Freddie Mac with all that backing that implies and more importantly these loans were underwritten to current, relatively strict, standards. These are all multifamily loans and most of the securities have the backing of Freddie Mac, giving them, in my opinion, the risk of a government security. For the security holder these do not have the risk of typical CMBS, but it does have some of the same characteristics. The issuance and acceptance in the market of these securities shows that the capital markets are still interested in securities with the cash flow peculiarities of CMBS. This is an important first step in re-opening the capital markets to commercial real estate loans, particularly on the multifamily side.
While this sale is interesting, does this do anything for the borrowing public? In the short term I am not so sure that it does anything. Without the government backing it is unlikely this would have sold in today’s market and today Freddie and Fannie are making multifamily loans without direct capital markets funding. In the long run this may be beneficial. Not only does it help test the market for eventual CMBS, but it can provide another source of funds for Freddie and Fannie (though Fannie has been securitizing loans for a long time on a single loan basis). With the pressures on Freddie and Fannie from the single family side it may be important for the multifamily groups at each GSE to have access to capital that is not just the mother company’s balance sheet. This sale certainly shows they have that access.
The other real impact this has on the borrowing public relates to loan flexibility and competition. If you have been looking at Freddie for a loan over the last few months you have already been sold a CME loan. They started selling these loans earlier this year in order to have collateral for these recently sold securities. The CME is another option in Freddie’s already extensive menu of loan options. Freddie has been actively pushing this product through pricing and is offering these loans at up to a 40 Bps discount from their cash execution. This pricing difference has pushed many fixed rate Freddie borrowers into a CME loan. This lower CME pricing makes Freddie more competitive on their fixed rate loans, something that has been an issue for much of 2009.
The main differences between the CME program and the Freddie Cash program are standardization. This means less flexibility with modifying the documents and a harder prepayment premium. For most borrowers this is not much, if anything, to give up in exchange for a lower rate. I do wonder how loans originated into this program will be serviced and if they will have the same flexibility as Freddie loans that are still on their books. It’s always nice to be able to deal with the lender who still owns your loan if and when a problem occurs in the future. This has been a hallmark of the Freddie program for over 15 years.
Over the past few years Freddie has become a specialist in creative multifamily financing, particularly for larger borrowers. As compared to Fannie they were more willing to modify loan documents and craft a loan to the borrower’s specific needs. This was particularly true for large borrowers, but smaller borrowers also benefited from this ability. With the CME loan this “craft work” is no longer in favor. Freddie can modify loan documents and be flexible, but now there is a cost. Maybe that’s how it should have been all along.
I wish Freddie lots of luck in further developing this program. In today’s market any new program is welcome and one that gives the borrower a better rate is especially welcome. If you want to know more about the CME program take a look at the Freddie term sheet (http://www.freddiemac.com/multifamily/termsheet_cme.html) or give me a call (847-421-2217).
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