Rating agencies give high marks to bonds financing defaulted properties. Are we back to 2009?

According to a report in the Financial Times, credit agencies “mis-rated” more than $100 billion of commercial real estate debt (CRE) in an increasingly popular segment of the market. The rating assessment was done so well that real estate companies that later went into default received AAA ratings on their securities.

This problem mainly affects transactions backed by a loan or mortgage on a single large office building (single-loan transactions), which account for about 40 percent of the approximately $700 billion in commercial mortgage bonds outstanding. so it is not out of the question that this $100 billion figure will turn out to be much higher in the future.

Some analysts draw comparisons between the current state of affairs and the pre-2008 financial crisis period, when rating agencies gave AAA ratings to bonds that were nearly solely backed by subprime mortgages. Even then, the Rating Agencies rated subprime mortgages and the derivative securities linked to them very superficially, assigning, just as they do today, AAA ratings to securities of companies that were decayed. The companies were nothing more than “Rating Shops,” who feared that clients might go elsewhere and were therefore extremely

AAA ratings should indicate that a borrower’s risk of default is extremely low, but some AAA-rated transactions always appear riskier. For example, DBRS Morningstar and S&P have rated the $75 million single-loan bond of 1818 Market Street in Philadelphia as AAA even though the borrower is behind on payments. Basically, a company that is on the road to bankruptcy is considered trustworthy.

Critics warn that ratings on commercial mortgage bonds backed by a single loan, because they lack diversification, are not as reliable as other bond ratings.

Stakeholder scrutiny of these transactions increased recently after investors lost 26 percent of their initial investment in a bond originally rated AAA and backed by a single building—the former Manhattan headquarters of the MONY insurance company at 1740 Broadway.

A difficult problem to solve

Bond issuers are the ones who pay rating agencies, not investors. As any commercial company tries to please its customers, that is, those who issue the security itself, savers matter less.

Currently, the commercial real estate mortgage crisis is hitting the U.S. lending system hard and has already sent a few small and medium-sized banks, those that were most unbalanced on these types of mortgages, into the ground, but the discovery of the unsustainability of AAA ratings threatens to send the crisis to another level.

It was found that a large number of bonds backed by AAA-rated mortgages were, in fact, junk during the 2008–2009 Financial Crisis. The famous movie “The Big Short” presented the problem very well.