Is CMBS the Best Way to Gain Real Estate Exposure?

CMBS took a real beating during the great recession but with the weaker borrowers already gone and with prices for securities in a significant rally it may be time to look here for real estate exposure.

Compared to RMBS, CMBS offers some advantages. First, the CMBS universe is not plagued by robo-signers, documentation issues, and the emotions common with residential lending. Second, the equity tranches are deeper and have already sustained losses with yield still paying out to senior tranches. Third, duration is known as most securitized loans require defeasance or a yield maintenance premium on prepayments. Finally, bargain hunters are out and active in the commercial real estate space. With many REITs trading strong they have cash for acquisitions and support of existing properties.

A recent article on Bloomberg indicates Moody's commercial property index is climbing:  U.S. Commercial Property Rises For Second Consecutive Month, Moody's Says.  Also, check out this article from the New York Times on CMBS: The Upside? Things Could Be Worse.

Another way to consider additional exposure or hedging current positions is the Markit CMBX index. Check the indices out here:  Markit CMBX Indices.  As with any other CDS index they provide liquidity and lower initial capital investment. Just remember the lessons from AIG before getting too short!

It may seem strange to discuss increasing borrowing costs yesterday and investing in fixed income today, however in an upturn of commercial real estate prices it may provide relative security at a better yield. Further, by combining a CMBS purchase with an interest rate swap investors can hedge against falling bond prices. With liquid markets available to hedge interest, credit, and real estate exposure tailoring risk to individual preferences can be achieved.