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CRE Loan Pricing Fails to Reflect Land Valuations

The pricing premiums paid by buyers of commercial real estate loans often fail to reflect the "enormous range in the change in values" of the underlying real estate markets, according to Moody's Investors Service.

Instead, commercial real estate loans trade within a "fairly narrow" band regardless of changes in real estate values, the rating agency concluded after conducting a study of loan pricing.

Moody's senior vice president Sally Gordon said in a news release that the analysis indicates the initial loan spreads "do not proportionately capture, reflect or anticipate variability" in property markets.

"Property market risk is a major factor driving credit performance of the loans backing commercial mortgage-backed securities and of the securities themselves, so loan spreads should incorporate appropriate pricing for that risk."

Moody's studied changes in real estate values from 2003 through 2005 in 221 asset classes or real estate market pairings, such as New York offices, Chicago industrial properties and Boston apartment buildings. The analysis studied more than 60 cities in each of four major categories - office, retail, multifamily and industrial.

Moody's says that the initial price paid for a loan should incorporate some premium in more volatile markets or are likely to decline, since they pose a greater risk of default. Instead, spreads in riskier markets are eerily close to those in less risky markets, even when controlling for leverage. (c) 2006 Mortgage Servicing News and SourceMedia, Inc. All Rights Reserved. http://www.mortgageservicingnews.com http://www.sourcemedia.com