Securities Fraud Lawyers

Commercial Mortgage Backed Securities

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Commercial mortgage backed securities are a type of mortgage-backed security based on mortgages on commercial rather than residential real estate. CMBS issues are usually structured as multiple tranches, rather than typical residential "passthroughs."

In a CMBS transaction, many single mortgage loans of varying size, property type and location are pooled and transferred to a trust. The trust issues a series of bonds that may vary in yield, duration and payment priority.

The mortgages in the trust are securitized as a real estate mortgage investment conduit. (REMIC). A REMIC allows the trust to be a pass-through entity which is not subject to tax at the trust level.

Nationally recognized rating agencies assign credit ratings to the various bond classes ranging from investment grade (AAA/Aaa through BBB-/Baa3) to below investment grade (BB+/Ba1 through B-/B3) and an unrated class which is subordinate to the lowest rated bond class. Investors consider credit risk, yield and duration when deciding which CMBS to purchase.

Each month the interest received from all of the pooled loans is paid to the investors, starting with those investors holding the highest rated bonds, until all accrued interest on those bonds is paid. Then interest is paid to the holders of the next highest rated bonds and so on. The same thing occurs with principal as payments are received.

If there is a shortfall in contractual loan payments from borrowers or if loan collateral is liquidated and does not generate sufficient proceeds to meet payments on all bond classes, the investors in the most subordinate bond class will incur a loss with further losses impacting more senior classes in reverse order of priority.

Many CMBSs carry less prepayment risk than other mortgage backed securities, thanks to the structure of commercial mortgages. Commercial mortgages often contain lockout provisions after which they can be subject to defeasance, yield maintenance and prepayment penalties to protect bondholders.

CMBS has become an attractive capital source for commercial mortgage lending because the bonds backed by a pool of loans are generally worth more than the sum of the value of the whole loans. The enhanced liquidity and structure of CMBS attracts a broader range of investors to the commercial mortgage market.

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