Commercial Real Estate Finance

How shall I put this delicately? I have heard that sometimes, when the owner of an asset hires an expert to evaluate said asset, a potential conflict of interest can arise. The expert evaluator might, possibly be tempted to inflate the value of the asset to satisfy it’s client. I could even imagine a more aggressive owner putting a little pressure on the “expert” to inflate the value of the subject asset. While I’m not suggesting any specific person or company has ever done this, we should always be cognizant of where incentives lie.

In the recent “Fin-Reg” bill – while I have no idea what it really says – congress was supposed to have addressed this issue with the ratings companies. As you may remember, subject companies pay the ratings agencies. Do you think companies might be tempted to higher the agency who consistently has a more flattering view of the company’s business prospects? How about the folks who discovered that synthetic CDO’s can be conjured out of thin? This eliminated the need to even deal with an actual client. The I-banks could just deal straight with the ratings agencies for as long as they could find two parties to take the opposite sides of the trade. “But they were rated AAA!,” I can imagine some folks saying in late 2008.

In commercial real estate, the developer traditionally pays the appraiser. Enough said, right? Well, what if the bank pays the appraiser? Is a loan officer generally paid for doing more or less business? Is a banker’s yearly bonus more a function of transactions or long term success of the loans he writes? Lastly, if both the developer and the loan officer are experts in their field, why is an appraiser even involved?

Which brings me to this article on Bloomberg about the insurance industry and CMBS. Basically, insurance companies were big buyers of CMBS. The long term tenor of the commercial loans matched their long term assets. As we all know, the stuff they bought during the height of the bubble is probably not performing so well. Much, if not all, is carried at book so writing down means losses. What to do?

Hire an expert! Looks like the insurance regulators are interviewing firms in an effort to get their heads around this mess. My first question is: why aren’t the regulators able to handle the situation? If they regulate insurance companies and insurance companies buy CMBS, shouldn’t the regulators understand the asset class? My second question is, what do they expect this firm, whoever they are, to say? Are they more likely to hire the firm that says CMBS assets are way in the red, or the firm who says things might not be so bad?

Like the old saying goes, you get what you pay for.

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