Tracking Commercial Real Estate with the CMBX Indices

It was through NYU economist Nouriel Roubini that I first learned about Markit's series of ABX indices that track subprime mortgage debt. So it is no surprise that it is through Roubini that I learned about Markit's CMBX indices. The CMBX Indices track the Commercial Mortgage backed securities market, which is the commercial equivalent of the residential mortgage backed securities market (RMBS).

I've written about the potential for weakness in commercial paper before. In fact I wrote a post back on May 2nd entitled "Froth in Commercial Real Estate." In that post I described how lenders were using insanely high rent growth projections in order to justify loans. The scary thing is the way the commercial market is unraveling is eerily similar to the subprime problem on the residential side.

1. First the lenders tighten up or disappear. This step is already happening. This is from the Wall Street Journal: "In the last three months, lenders have pulled back somewhat, tightened covenants and required borrowers to put up more cash. " While this is obviously different than say what happened to New Century Financial on the residential side, it is clear that lenders are at least starting to tighten up.
2. Investors price in the risk and the Markit indices show the change. This is already occurring. The CMBX index for the riskiest commercial loans has already widened considerably. See below:
3. Finally, the existing debt gets crushed in the secondary market as more and more borrowers default. This hasn't yet happened on the commercial side. In fact defaults are still at a low point historically. But, the rating agencies are calling for rising defaults in the months to come.

Is the commercial mortgage market the next shoe to drop? Nouriel Roubini thinks so, and he sure did call the subprime meltdown.