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Commercial Mortgage Backed Securities are a type of security investment secured by commercial mortgages. CMBS are generated by so-called "conduit" lenders, who originate commercial mortgages with the aim of securitizing them, arrange them into asset pools, and sell standardized sections of these pools to investors on the open market. The interest payments on the properties securing the CMBS offerings are passed through to the investors as interest income.
Following the downfall of the savings and loan associations in the 1980s, the Resolution Trust Association (a government-owned asset management company) acquired a large group of commercial mortgages that had been part of the S&L's assets. Since the RTC's mandate was to liquidate these assets, and it could not therefore simply retain these commercial mortgages as part of a standing portfolio. The unprecedented step was taken to classify and securitize the investments and sell portions of the asset pool on the open market. The RTC did not originate new commercial mortgages, neither in order to replace CMBS offerings that were paid out in full following the balloons of the commercial mortgages securing them, nor to increase the volume of the new market. But before long commercial lenders and investors caught on to the potential of this new type of investment: so-called "conduit" lenders began originating commercial mortgages for the express purpose of turning them into CMBS offerings, and the market grew and grew, until, at present, the annual CMBS issuance volume is near $170 billion and conduit lenders present a real threat to many conventional portfolio lenders.
Each loan originated by a conduit lender is put into a class (AAA through BB or unrated) according to such factors as the property condition/desirability, LTV and DSCR. A particular CMBS offering is made up of a sort of cross-section of a group of loans, the total balance of which might be, for instance, $1 billion. Each of these small cross sections therefore contains pieces of different classes of loans; these "pieces" are called "tranches" or "strips". The majority of tranches in a particular offering are made up of AAA or AA loans so that the income on these superior quality investments can absorb any shortfalls from the lower-grade tranches. As the CMBS servicer (whether this is the conduit lender that originated the loans or an outside company) collects interest payments on the various loans that make up the offering, it distributes these payments to the investors in priority of the rating of the tranches that make up the offerings the investors own (i.e. AAA tranches have first priority to be paid).
CMBS conduit lenders continue to grow in importance in the commercial mortgage market, and are now the main and most competitive source for large term loans.
--Article courtesy of Lendicom.com
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