So I also wrote my own letter.

CMBS.com letter: “It’s the rent roll, stupid!”

In order to make my letter stand out among the hundreds (thousands?) the SEC probably received, I was tempted to name my SEC submission: “It’s the Rent Roll, Stupid.”

I was thinking it might not be offensive but rather draw comparisons to the famous James Carville line from the 1992 presidential campaign: “It’s the economy, stupid.” By using the word “stupid,” Carville drew attention to what turned out to be the key issue of that election — the economy — and Bill Clinton rode that issue to victory.

For CMBS transparency, the key missing data element is the rent roll. Victory would be the SEC enforcing rent roll disclosure. Hence “It’s the rent roll, stupid.” But I chickened out and tried to make the content of the letter stand on its own.

The letter came out to just over two pages and only addressed data disclosures and XML. I stated the lack of rent roll disclosure for all tenants is the single biggest gap in current CMBS reporting, and it’s the most important new data disclosure the SEC should require.

I conclude that CMBS transparency will be achieved when full rent rolls are disclosed, the IRP is converted to XML and the missing fields per Schedule L and LD are added.

I have no idea how many comment letters the SEC actually received, or if my letter stood out enough to be read, but I’ll post here if I hear any response.

> Download the CMBS.com Regulation AB response letter

Here is a brief summary of the other three industry letters I worked on: MBA, CREFC and MISMO.

MBA letter backs XML!

The MBA letter (18 pages plus exhibits) was a victory for XML.

As far as disclosure, the MBA took the position that the IRP should be the vehicle for CMBS investor reporting and, if changes/additions are needed, they should go through the IRP process.

However, the MBA went much further than CREFC in its support of XML. The final letter said: “The MBA supports the use of XML as the regulatory reporting format to enhance the utility and transparency of data provided to investors in asset-backed securities. The MBA understands the value of XML reporting and is in favor of XML adoption.”

I was actually co-chair of the group that drafted the XML language and I am happy to report we got full XML support from the MBA. The only change they proposed was timing for implementation (two-year implementation versus one-year). That was more than I expected and way better than the CREFC response.

> Download the MBA Regulation AB response letter

CREFC letter backs nothing

The CREFC letter was 29 pages long plus exhibits and focused on a lot more than just data disclosures and XML (it also addressed risk retention, private deal disclosures, waterfall program and other shelf eligibility proposals).

On the key issue of transparency, the letter basically said the existing disclosures are transparent and the reporting should move to XML only when the industry is ready and needs it (no time commitment). The letter was against all of the other SEC proposals. The letter did conclude by stating that there was not 100 percent acceptance within the trade group with all the “no change needed” positions.

> Download the CREFC Regulation AB response letter

MISMO letter backs MISMO

The MISMO letter was very strong on the value of XML standards but neutral on the appropriate data elements required for transparency.

MISMO was not just in favor of XML: They were in favor of MISMO XML.

Their argument was the SEC should use existing industry standards where possible (they provided legislative text to back up that position) and, therefore, should adopt the MISMO standards for investor reporting.

MISMO has a huge presence in residential securitization standards (RMBS) so, from that point of view, the letter was convincing. This was noticeably different than the MBA because the MBA letter endorsed the IRP — not MISMO — as the preferred standard for CMBS.

I assume the MBA letter for residential (which I have not seen) endorsed MISMO, but this is an interesting twist.

> Download the MISMO Regulation AB response letter

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

The big question is whether the SEC enacts rules and regulations to actually bring about transparency.

Regulation AB update

The SEC proposed a whole bunch of new rules regarding securitization reform, known as Regulation AB, and have set Aug. 2 as the deadline for public comment on the proposals.

I have been active on committee calls with three different groups (CREFC, MBA and MISMO) that are all preparing separate comment letters to the SEC. I have been reluctant to blog about the drafting of the responses because the process is dynamic, and I have not wanted to pre-judge the response letters.

For sure, different subcommittees have expressed different views, and not everyone is in agreement with the SEC strategy. However, the final form of the letters seem to be taking shape, and the industry letters from CREFC and MBA appear to disagree with just about everything the SEC has proposed. From risk retention, to private deal disclosure standards, to the waterfall program, to shelf eligibility changes, the comments are all different versions of “no.”

In fact, up until a week ago, the CREFC letter was asking for an exemption from the new disclosure rules proposed with Schedule L and LD (the actual XML data fields the SEC asked for). CREFC was taking the position that their reporting is already sufficient and nothing would be gained by following the new SEC reporting requirements.

Luckily, CREFC leaders met with the SEC last Thursday and were told there would be no categorical exemption for CMBS. This week they are reviewing their response letter; expect some last-minute changes.

There is even debate on whether there should be any reporting in XML. While the MBA is more open than CREFC on this issue, the endorsement for even XML reporting is far from certain.

Industry response disappointing

Unless there is a huge change in the next week or so, both the CREFC and the MBA industry responses to the SEC will be disappointing.

Neither group is answering the SEC proposals with the goal of actually providing transparency. Instead, the letters seem to be taking a “negotiating” position with the SEC by offering nothing and hoping the directives will be few.

This is most evident with the Schedule L and Schedule LD response. The discussion was never about whether the list of data elements actually gives investors transparency into CMBS. Rather, the discussion focused on not expanding the current IRP reporting. No discussion of rent rolls. No discussion of adding anything new. If an SEC field was not already in the IRP (and about half were not), the response has been “The field is not necessary for CMBS investors.”

I’ll blog after the response letters are final and certainly as the SEC starts to act. It looks like it will be up to the SEC to ignore most of the industry objections and stick to their guns and the letter and spirit of the new law. From my position close to the process, I am worried that — despite today’s legislative victory — transparency in CMBS is by no means guaranteed.

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

The result was much greater discussion of the controversial issues.

The two most controversial issues, loan level disclosures and alignment of interest, were discussed in most sessions but really got active in the Investment Grade Bond Holders Forum.

The forum was chaired by Bill Moretti of Met Life and Tricia Hall of Paulson & Co., who both did a great job of pushing the discussion into controversial topics. When the topic of 5 percent risk retention for shelf eligibility came up, most participants at the conference were in favor of allowing third party B-piece investors to satisfy the requirement. When Bill Moretti stated that full disclosure of rent rolls is important for investors, there was push back from both the issuers and the servicers.

However, Bill made it clear he thought risk retention by the issuing shelf and by a third party B-piece buyer was the best idea. He also stated categorically that full rent rolls should be reported for all tenants on all properties. He reminded the audience that the expected loss of 25 percent on CMBS bonds issued in 2006 and 2007 is awful and represents proof that our methods must improve. The panel really made their point when they put up a slide of that crazy picture of Albert Einstein with his tongue sticking out with a quote under the picture saying: “Insanity is doing the same thing over and over again and expecting a different result.”

They also distributed a “Best Practices for CMBS Restart” document at the conference. This eight-page document is broken out into two general categories: transparency and alignment of interest. Download Best Practices for CMBS Restart.

The proposals sure makes sense to me, and they got good press coverage. Download this excellent article by CRE Direct.

Backshop/CMBS Cocktail Party

Our Tuesday night cocktail party was well attended and lots of fun. Thanks to everyone who came. We got a suite on top of the W New York hotel across the street from the Waldorf. The deck was awesome and the night was perfect. We enjoyed the New York skyline and watched Game 6 of Lakers/Celtics. We went into the wee hours and wound up at a diner for some late night grease.

View from the deck.

That awesome deck.

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

XML acceptance

A well-attended special session focused on the proposed new regulations and the MBA response.

After a fair amount of discussion on what the changes entailed, the moderator took a survey of which firms were in favor, opposed or indifferent to reporting in XML. For the first time, not one servicer stated they were opposed to reporting in XML (a few were in favor and most voted indifferent).

It seemed that either the fear of a negative reaction from the SEC or just plain acceptance of the inevitability of the rule changes eliminated at least public disagreement with converting to XML. To be sure, there will be great debate on which data elements should be included in the XML, and if the IRP itself will change, or if there will be a new XML report solely for SEC compliance. But public resistance from the servicers, which has always killed the discussion in the past, was absent.

MISMO: What a difference a year makes

There were two dedicated MISMO panels and a MISMO meeting. I attended all three sessions and spoke on the last panel titled “Making MISMO Work for You.” Download the Powerpoint slide show. The Dilbert comic on slide 2 is classic.

While I would not say attendance was bursting at the seams, all three sessions generated fairly good crowds. People actually asked questions and showed interest in learning more about standards and XML.

Last year at this conference in New Orleans, there was virtually no discussion about MISMO and XML standards. Everyone was focused on servicing issues as opposed to reporting/transparency issues. This year, the focus and sense of urgency provided a much-needed boost of energy to all the folks who have been working on data standards.

Next steps

The MBA, CREFC and MISMO are all working on their responses to the SEC proposals. The comment period ends August 2, so all responses must be finished by mid July.

I am participating in all the conference calls and was elected to be co-head of the MISMO response committee. MISMO will make sure the XML schema for the final list of data elements is workable and consistent with the MISMO data model, and ideally with the CREFC IRP 6. The next several weeks will be very interesting as the responses get finalized.

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

I am actively participating in developing both the MBA/MISMO and the CREFC responses to the proposed changes. This process provides a forum to promote the adoption of XML standards, which I am also actively participating in. Below is my summary of where we are with our current disclosure levels, what the industry goal should be, and a recommendation for a solution.

Current practice:

During the CMBS offering process, issuers share basically everything with rating agencies and bond investors including full loan level, lease-by-lease underwritings. While this disclosure has historically been extensive and complete, there has been no standard format (despite the fact that everyone shares the same types and level of data). The offering disclosure can be characterized as complete but not standardized.

For ongoing investor reporting (surveillance), there is a standard reporting package (CMSA IRP 5 ), but it is in the wrong format (CSV and Excel instead of XML), and it does not contain sufficient data to do full loan level underwriting. This data can be characterized as standardized but incomplete.

There has been a three-year effort to upgrade IRP 5 to XML (the result being the Draft IRP 6 XML schema), and there has been extensive debate regarding adding information to allow loan level underwriting during the surveillance of the bonds. However, adoption of XML has been stopped by a handful of parties for various reasons, and, despite requests from investors, there has been no consensus on disclosing all tenants (currently only the top three tenants are disclosed).

Goal:

The main intent of the SEC regulations is to demand transparency in the securitization process. Transparency is defined as providing enough data to allow investors and rating agencies to accurately value the underlying collateral and produce open, credible bond models so all parties can see how the securities were priced.

The goal of CREFC and MBA should be to satisfy this demand by agreeing on one standardized data set that would meet the needs of investors, rating agencies and bond models. If we do that, we can satisfy both the letter and the spirit of the financial reform rules.

Solution:

The SEC is making it clear they want XML. The CMSA IRP committee worked with MISMO to devise the proposed IRP 6 XML schema, which can serve as the foundation of disclosure standards for both new issuance and surveillance.

If some additions are made to IRP 6 (MISMO rent roll and operating statements, full information regarding original and modified note amortization terms, and bond waterfall data), we will be transparent. Done.

The responses from both CREFC and MBA will be submitted in the next 45–60 days. I will try to get the above goals and solutions incorporated, and I’ll post updates as the comment letters start to take shape.

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

The rule requires issuers and hired rating agencies to maintain password-protected websites to share rating information with non-hired rating agencies.

Here are the rule’s objectives:

- Increase the number of ratings for structured finance products,

- Promote issuance of unsolicited ratings and

- Reduce the ability of issuers to obtain better than warranted ratings by exerting influence over hired rating agencies.

The session explained the rule and attempted to answer questions about its implications. You can download the details (New SEC Rating Agency Reform Requirements and Impact on Structured Products Participants) and read the highlights here:

1) The rule regulates the NRSROs (nationally recognized statistical rating organizations, aka rating agencies), not the issuers. A rating agency must maintain a website that lists all the deals it is rating and provide links to the Arrangers’ websites to access the disclosed data. Non-compliance by the NRSRO could jeopardize the NRSRO designation granted by the SEC.

2) Arrangers (issuers, sponsors and underwriters) are responsible for A) posting and maintaining all data and communication they have with the hired agency and B) granting access to this data to the non-hired NRSROs.

3) The rule applies to most structured finance including CMBS, CDOs, CMOs, CLOs and even 144A private deals.

4) The non-hired NRSROs must treat the information as material non-public information. There are lots of unanswered questions about what this really means, especially in CMBS where the ratings are usually supported by loan-level reports.

5) If a non-hired NRSRO accesses more than 10 deals on an arranger’s website, it must provide ratings for at least 10 percent of the deals they access. This is meant to prevent “free” data searches.

Catalyst?

As the three lawyers from Cadwalader explained all this to the audience, the reaction was focused primarily on implementation headaches.

I spoke up and said what a great opportunity this presents for the industry to adopt standards for both the way we communicate with the rating agencies and what data we share. I plugged MISMO and IRP 6 and reminded the crowd that the work of creating the standards is already done; we just need a coordinated adoption effort.

While there was some push-back, the compliance issues are so overwhelming that adoption of standards now seems inevitable. More than any other group I’ve discussed these issues with, I sensed this group is finally realizing that, since transparency is being mandated, standards will have to be adopted.

There’s a meeting in mid May to discuss these changes in more detail, and I am sure these issues will be front and center at the June conference. Stay tuned.

Great view

The offices of Cadwalader are downtown at One World Financial Center. The space has a great view south over New York Harbor with the Statue of Liberty and Staten Island.

World Trade Center

Out of the north side of the office, you could look straight down at Ground Zero where the World Trade Center stood. I’d heard they were making some progress on getting the building going, but I hadn’t realized steel was going up.

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

We have been jammed getting two new clients live (one Backshop license and one CMBS data user) and delivering major loan servicing features for an existing client. As we finish up, we are turning our attention to doing a Backshop enterprise software delivery, launching our document service and closing more business.

I will be in New York next week attending an industry event — After-Work Seminar - SEC Disclosure Requirements — hosted by the CREFC (formerly know as CMSA). I will report next week on the latest developments.

MISMO Update

There has been a lot of activity with C-MISMO over the last few weeks in preparation for the May 24-26 MBA’s Commercial/Multifamily Servicing and Technology Conference 2010.

We have a MISMO panel scheduled at the conference, in which I will participate. The SEC action in particular and the apparent movement in financial regulatory reform in general provide all sorts of opportunities to promote data standards and MISMO. Also, different than last year, we seem to be getting support from the MBA in promoting MISMO. I will post our panel presentation handout/slideshow here once it is finalized.

Earth Day

On this beautiful 40th anniversary of Earth Day (and in an attempt to liven up a blog about CRE data transparency), here are a few snapshots of life on the west coast:

They opened fishing for salmon for the first time in two years. All salmon fishing has been prohibited because the numbers are way down. While the weather was too rough to get out in the ocean and fish, we did set a crab trap and brought in two little ones. We threw them back.

Took the kids up to Squaw Valley for some spring skiing. We got blasted with 18 inches of fresh snow and had an awesome time both skiing and sledding.

I took my son down to Laguna Seca Race Way in Monterey for the 20th annual Sea Otter Classic. We saw the world’s best mountain bikers race and compete in all sorts of events. The coolest event was dual slalom race where two races get down the hill as fast as they can. Here’s the view from near the top of the course.

A pro slalom racer rips a bumpy, off camber turn faster than you can believe.

Here is helmet cam footage of the final pro men’s dual slalom run. It came down to the final sprint — and 0.05 second!

Shot with an EPIC HD helmet cam.

The new Sea Otter event this year was the Pro Pump Track Race. You can ride around a pump track without pedaling — just working the terrain with your arms and legs (it’s a lot like bump skiing). Our designer/copywriter Lee McCormack is also the worldwide expert on pump track design. He designed and built this track. www.leelikesbikes.com

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

Download: SEC Proposal Summary : SEC Proposal Details

For CMBS, the biggest immediate changes have to do with 1) new rules regarding disclosure of information to rating agencies that were not selected by the issuer to rate the securitization and 2) the mandate to move reporting to XML.

All rating agencies get all documents

I got wind of the new rules about two weeks ago when an existing Backshop client that has a SEC-registered securitization shelf called needing a document-sharing Web application (which we are currently building).

Specifically, they were told that for any securitization that happens after June 2, 2010, all documents that are shared with the rating agency hired to rate the deal must be disclosed to the other rating agencies that do not rate the deal. These disclosures must be maintained for the life of the bonds (10 years for most CMBS deals).

That means if S&P and Fitch are selected to rate a securitization, then Moody’s, DBRS and Real Point will all have the rights to access the same data.

This includes the asset summary reports, operating statements, rent rolls, underwriting assumptions, loan documents, bond model, the Q&A on specific deals and anything else shared between the issuer and the rating agency.

In the short term, this mostly benefits DBRS and Real Point as they now will get access to data that was historically limited to the hired agencies. The additional disclosures should also encourage (or at least not penalize) the “investor pays” rating models as opposed to “issuer pays” ratings.

Investors Next?

The next logical step is to disclose this data not only to all the rating agencies but also to the investors themselves so they can make their own buy/sell decisions.

The June 2 rules state that documents need to be shared, but documents are not the same as data (for data, we need XML).

The good news is, the fine print of the new SEC rules states that the data reporting standard for all public securitizations is going to be XML. No longer will Excel or even CSV be tolerated. For CMBS, hopefully that finally means the adoption of IRP version 6 and the resultant ability to disclose the critical deal information needed to value the collateral — not only to rating agencies but to investors themselves.

These new disclosure rules represent a real victory for transparency.

The way I read the proposals, the SEC is putting the securitization community on notice: By June 2 they must be sharing documents, and they must start preparing to report in XML.

Feels like real movement. …

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

Download: Financial Stability Act of 2010 : Senate Reform Summary

Further than the House

The Senate bill, surprisingly, takes transparency requirements to a greater level than even the House bill. Specifically, the Senate Bill requires the SEC to form the “Investor Advisory Committee” that is responsible for protecting investors in general and the “Office of Credit Rating Agencies” that is charged with identifying and enforcing disclosure rules. The formation of these two groups clearly gives the SEC the mandate to increase disclosure and the enforcement authority to make it happen. While the House bill had a similar intent, the Senate bill provides much greater detail on what transparency means and how to enforce disclosure.

One of the biggest items in the new disclosure rules would be that rating agencies would disclose to their customers (the investors) the details of how the ratings were established. Rating agencies will need to include both the “qualitative methodology” and the “quantitative inputs” for all ratings determination. This is detailed on page 837 through 843 of the bill. The way I read it, this disclosure eliminates the “black box” ratings model and opens up the data to all investors.

For CMBS, I don’t see how inclusion of rent rolls in both new issuance and surveillance activities would not be required, as the “rent in place” is the number one “quantitative input” all CRE valuation models use.

Not all good news

While I applaud the new transparency requirements and believe those rules are critical, I am basically against almost all the rest of the reform proposals. Specifically, the Senate still has the concept of “skin in the game” where the issuer would have a retention requirement of 5 percent and the accounting concept that a securitization is not a true sale. Both these proposals, I believe, are unnecessary and could act as impediments to getting securitization going again.

Will the bill be law?

Despite that fact that the Bill is not perfect, the good outweighs the bad. The clear directive, roadmap and enforcement authority regarding transparency and disclosure is more important than the headache of retention and accounting concerns. We will have to wait and see if the Bill gets passed and how it gets reconciled with the House Bill. As the classic song goes,

I’m just a bill
Yes, I’m only a bill
And if they vote for me on Capitol Hill
Well, then I’m off to the White House
Where I’ll wait in a line
With a lot of other bills
For the president to sign
And if he signs me, then I’ll be a law.
How I hope and pray that he will,
But today I am still just a bill.

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com

1. MISMO will reach out to software vendors in areas including property management, servicing and loan origination.

The goal is to convince these vendors to support the export and import of rent roll and operating statements in the MISMO XML format. I have committed to make our loan origination system, Backshop, compliant with MISMO. I encourage all other relevant vendors to do the same.

If you run a software company and get a call from MISMO (Jack Huntress is leading this effort), be nice.

2. Ease adoption of the MISMO XML rent roll and operating statement formats by providing rock-solid technical direction and tools.

This will help the tech people get their organizations on the standard in an easy, straightforward way.

I volunteered for this role, so there will be some goodies coming soon.

3. Convince Fannie Mae and Freddie Mac to use and require data submissions in MISMO standards.

Both agencies are already adopting MISMO on the residential side, so we feel they should be open to doing the same on the commercial side. Our fearless leader, Jim Cooke, is leading that effort.

4. Publicize success stories of those who have adopted MISMO standards.

If you have a success story and would like to share it, contact MISMO. You might get some press in the MISMO Minute publication distributed by the MBA.

Let’s not forget about political advocacy.
That’s the one thing I pushed for that didn’t make it on the list.

I believe if we ever get a financial reform bill passed by Obama (and even if we do not), we should reach out to the SEC to make them aware of the role MISMO standards can bring to the transparency issue.

However, it was decided to keep policy and political advocacy out of our strategic plans. Instead, we are going to rely on existing MBA advocacy efforts, and try to get them to push MISMO.

The MBA has historically not supported MISMO very well, so we’ll see if that works. …

— — —

Jim Flaherty is CEO of CMBS.com and the creator of the Backshop loan origination system. He is a trained credit professional with experience installing enterprise underwriting systems for commercial real estate lenders, rating agencies and investors.

www.cmbs.com

www.backshop.com