Leases to Facebook, Netflix Boost Confidence in Property Bonds

(Bloomberg) -- Long-term leases from ultra-creditworthy tech tenants such as Facebook and Netflix are giving money managers confidence as they scoop up bonds backed by loan payments on office buildings, film studios and other properties, even as the Covid-19 delta variant throws a wrench into some parts of a nascent real estate recovery. 

This week alone, two commercial mortgage-backed securities offerings boasted these and other quality Silicon Valley and media names as some of the reliable tenants putting their signatures on commercial leases. Having solid companies as tenants gives an added layer of assurance to some investors that years-long rent payments will be made on various properties collateralizing the bonds.

A subsidiary of Brookfield Asset Management, for instance, is marketing a $205 million CMBS linked to a loan it received on two new office buildings in Bellevue, Washington that are leased to Facebook Inc., according to Fitch Ratings. The bond may price on Friday. On Tuesday, a portfolio of three film-production studios and five office buildings in Hollywood owned by a partnership between Blackstone and Hudson Pacific Properties was securitized and priced in a nearly $1.1 billion CMBS to refinance existing debt. Netflix is one of the main tenants across the entire portfolio, occupying nearly 300,000 square feet of studio space across 22 stages, and three of the five office buildings totaling more than 700,000 square feet, Fitch said. 

Risk premiums on the transaction narrowed considerably at pricing compared to guidance levels, a sign of intense investor demand for the tranches. For instance, the AAA slice tightened to 65 basis points over one-month Libor at pricing from initial guidance of 70 to 75, according to data compiled by Bloomberg.

“High-quality tenants definitely increase the attractiveness of the investment opportunity,” Daniel Lucey, a senior portfolio manager at Sun Life Capital Management who invests in securitized credit, said in an interview.  “We like to see these strong tenants such as the tech names in recent deals. But at the same time, we think CMBS spreads overall are pricing in quite a bit of good news and recovery anyway. We’re confident that fundamentally better operating assets in commercial real estate will continue to hold their value.”

Read more: Office Towers Still Hot Bet Despite Vacancies

Despite shrinking demand for office space, lower rents and uncertainty about how much telecommuting will occur post-pandemic, investors this year have been willing to put money into properties they see has high quality, known as Class A properties.  They have even bought bonds backed by portfolios of certain well-performing shopping centers and malls.  While they may have reservations about the overall retail sector, the lure of incremental yield in a tight credit market -- as well as the belief that there will be some winners among top-tier suburban shopping malls -- is drawing them to buy the securities.

Focus on Quality

In fact, the overall CMBS sector has already been resilient since the depths of the pandemic, drawing strong demand. But having top-name tenants in a securitization only makes the investment more attractive, market observers say. In a period of low rates, money managers have clamored this year for securitized bonds such as CMBS that typically offer a little more yield than other asset-backed debt and corporate paper. There have been a string of other so-called single-asset, single-borrower (SASB) commercial mortgage bonds sold tied to the financing of urban office buildings. 

The surge in Covid cases in the U.S. caused by the highly contagious delta variant has upended the recovery for certain sectors of CMBS -- namely big-city hotels and urban office buildings, Deutsche Bank analysts said in a Tuesday research note. 

But CMBS this year has focused on top-notch real estate and well-known financial entities. In the case of the Hollywood-studio CMBS transaction, “The buildings are relatively new, offer quality production space, and the sponsors are certainly well-regarded,” said Christopher Sullivan, chief investment officer at the United Nations Federal Credit Union. It’s also a “reasonable yield opportunity for those seeking a short duration defensive, but still quality, asset,” he said.

The Brookfield CMBS, meanwhile, is tied to two new office buildings, known as Block 16 and Block 24, that are part of the development of a community known as the Spring District, a centrally located, transit-oriented neighborhood in the Seattle area. The loan was originated by Goldman Sachs Group Inc. and Deutsche Bank AG.  

Facebook, which has leased nearly 100% of the buildings, has delayed its return to office plans until January 2022. 

Relative Value: CLO, ABS, CMBS

• Sun Life Capital Management likes single-A rated CLO tranches, according to senior portfolio manager Daniel Lucey. The investor especially likes deals from high quality managers where the single-A tranche prices in the low 200 basis points area, he said
• In ABS, Lucey likes subprime auto tranches from top tier names. Used car prices may not hold at the current high prices, he said, but recovery rates of over 90% are “unprecedented”
• In CMBS, value can still be found in the secondary market, where certain conduits containing retail loans still may trade wide. Conduit single-A and BBB tranches backed by some higher quality retail assets in the secondary market can present strong relative value, he added

Quotable

“The entire housing market is on fire, across the board from homeownership to rental, from high-end to low-end, from coast to coast,” Mark Zandi, chief economist for Moody’s Analytics, said this week. “It’s a basic need but it’s increasingly out of reach.”

What’s Next

No new ABS deals are currently marketing, and the sales calendar may remain light until Labor Day, according to market participants.

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