As the 2006 hurricane season--now forecast to visit nine hurricanes on the Gulf and East coasts--looms over distant waters, commercial mortgage-backed securities (CMBS) investors with collateral located in hurricane zones are counting their blessings. While the 2005 season brought so much human tragedy to the Gulf Coast region, it did not cause a financial debacle for the CMBS market. [??] The real story of Hurricane Katrina, especially in New Orleans, is how well the CMBS market handled the situation, says Dan Fasulo, director of research at Real Capital Analytics Inc., New York. [??] A March 2006 Morgan Stanley report entitled Six Months After the Hurricanes, examines the effects of Hurricanes Katrina, Rita and Wilma on CMBS credit performance and concludes that, while the trio of hurricanes had some negative short-term effects on CMBS credit, the long-term effect appears to be insignificant. [??] "Total delinquencies on the seasoned CMBS universe (all conduit/fusion deals aged over one year) rose from 1.27 percent in September 2005 to 1.40 percent in October 2005," noted the Morgan Stanley report. But delinquencies went down in November 2005, it added. By December 2005, the total delinquency rate was 1.21 percent compared with 1.27 percent in September 2005, according to the report. [??] The consensus among professionals in the CMBS market is that even if there is a catastrophic blow to Florida, which has a lot more CMBS collateral than the Gulf Coast region, geographic diversification within loan pools should protect investors.
The CMBS loans in Louisiana, Alabama and Mississippi accounted for only 1.6 percent of total CMBS collateral, according to another Morgan Stanley report, dated September 2005, called CMBS Strategy: Hurricane Katrina and CMBS. This was less exposure than the CMBS market had to deal with in 2004, when four storms hit the state of Florida, since 6 percent of CMBS collateral is located in that state.
In addition to geographic diversity, sufficient property and casualty insurance; improved tracking of storm damage; and lessons learned from the Sept. 11, 2001, disaster all served the CMBS market well in 2005 and are expected to do the same this year.
Morgan Stanley's March 2006 report also looked separately at the credit performance of areas affected by Hurricanes Katrina, Rita and Wilma, although Wilma did not produce a noticeable spike in delinquencies. In the case of Hurricane Katrina, Louisiana collateral accounts for about half of the loans that Morgan Stanley examined in all three states--Louisiana, Alabama and Mississippi. This review showed that while total delinquencies for the three states increased by 616 basis points to 7.73 percent two months after Katrina, compared with the five-year average of 2.96 percent before Katrina, total delinquencies fell back to 3.47 percent by February 2006.
"I think that Hurricane Katrina was initially a significant event for the CMBS market," says Larry Kay, director of structured finance ratings at Standard & Poor's (S & P), New York. "Expectations were that many borrowers would be underinsured or that collateral value would decline, but the good news is that servicers are advancing on principal and interest payments for delinquent loans" because they think the money is recoverable, he says.
Although the CMBS market benefited from geographic diversity and adequate property and casualty insurance, says Kay, "if recovery doesn't occur by the time business-interruption insurance lapses in 12 to 18 months, there could be a problem."
In the meantime, insurance money has become available, and servicers are advancing the funds for loan payments and/or they are negotiating short-term forbearance agreements. As a result, many loans have become current in the last few months. As of the February 2006 pay date, servicers had advanced $8. …