Thursday, July 23, 2009

Re-Remic-ing the Talf

Posted on FT Alphaville by Tracy Alloway:

Commercial real estate has, rather suddenly, become the new doom-spot for the US economy.

Fed chairman Ben Bernanke is worried about it, Morgan Stanley and Wells Fargo posted losses because of it, and S&P is confusing everyone about it.

The ratings agency’s sudden about-face on downgrades for certain triple A-rated CMBS, in particular, caused a bit of a furore on Wednesday. S&P had previously warned that it might downgrade billions worth of CMBS because of proposed changes to its ratings-methodology for the securities. That sent ripples through the CMBS market, especially since only AAA-rated CMBS is eligible for the Federal Reserve’s Talf programme, aimed at supporting ABS issuance.

In early June FT Alphaville wrote on the subject:

There’s an obvious solution to this problem. If the Fed’s determined to purchase legacy CMBS in significant amounts, it can simply lower the eligibility bar for the Talf programme . . . On a more facetious note, the banks could always repackage their CMBS into massive Talf-targeted CDOs. Repackaging not-so-great assets into one big structured asset is a strategy that has worked well for the banks in the past, in terms of garnering higher overall ratings from the ratings agencies.

Facetiousness? Scratch that.

Because on Thursday we are hearing this from the Commercial Mortgage Securities Association, via Structured Finance News:

In the case of re-REMICs, the CMSA recommended that these be considered for eligibility in the [Talf] program due to the Standard and Poor’s announcement of possible ‘AAA’-bond downgrades. This would allow for the resulting influx of re-REMICs, and create the space for approval on a limited basis.

Now re-Remics, for all their seeming complexity, are basically re-packaged CDOs. They have a few structural idiosyncrasies like sequential capital requirements that are meant to provide more protection, but this is basically a case of a CDO by any other name. (In fact, the name rather gives it way - re-Remic = Resecuritisation of Real Estate Mortgage Investment Conduits). At the moment CDOs, and consequently re-Remics, are not eligible for the Talf.

In the context of S&P’s threatened downgrades, however, re-Remics are very useful things for CMBS investors. For instance, you can take the AAA-rated tranche of a CDO that is perhaps at risk of being downgraded, slice it through the CDO tranching machine again and carve out — from that single bond — another set of tranches, one of which, according to suboordination, credit enhancement and other factors, will be triple-A again. Clever.

And even more useful and clever if the Talf starts accepting them.

In addition, it would also achieve a couple of things for the Fed. Firstly, it would yield up many more eligible securities for the so-far unimpressive CMBS portion of the Talf, and hopefully kick-start the commercial real estate market. Secondly, it could help keep all those clever underwriting banks and law firms busy — further pumping capital and underwriting fees into the system.

Structured finance to the rescue!*

*(Because it worked so well the last time).

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