To TALF or not to TALF

The US government has done much to try to tame the wrath of the credit crisis. Its latest effort is the Term Asset-Backed Securities Loan Facility, or TALF, programme, which received its first loan applications this week.

Under the plan, the Federal Reserve effectively serves as a matchmaker, partnering buyers and sellers of newly issued, top-rated securities backed by a variety of loans including student, small business, auto and credit card loans.

The $1 trillion programme, though, is being expanded and already accepts residential mortgage servicing advances (loans extended by mortgage servicers to cover payments missed by homeowners) as collateral, with plans to include commercial mortgage-backed securities as well as older, illiquid, lower-rated securities in the near future.

It is a move that has been warmly welcomed by private equity real estate professionals, who see the plan as a means of kickstarting banks overwhelmed by toxic assets on their balance sheets.

“There is no secondary market for commercial mortgages, so it is important to encourage lenders and investors whose activity will be essential in refinancing the performing commercial real estate loans in the marketplace, many of which are due to reset soon,” Richard Ellis senior managing director and Realtors Commercial Alliance chairman Robert Toothaker said when details of TALF were first unveiled last month.

Some private equity and private equity real estate firms – among them The Blackstone Group, Cerberus Capital Management and Fortress Investment Group – have also indicated that they are interested in using TALF funds to invest in debt.

However, there are some downsides with TALF.

Presently, TALF loans will be fully secured only by the most senior tranche in the ABS. According to legal sources PERE has spoken with this could pose difficulties for borrowers who trying to build a traditional securitisation. Although this could change as TALF is expanded.

Secondly – and perhaps most relevant for real estate – all TALF loans will have a three-year tenure. With typical commercial mortgages having terms of five or 10 years, it’s fair to ask who would buy a 10-year asset with a three-year loan.

The New York Fed will also apply haircuts that vary by the type and expected life of the pledged ABS, meaning anyone funding these loans will have to put up some equity. The haircuts range from anywhere between 5 percent for credit card and small business loans to 16 percent for assets backed by residential mortgage servicing advances.

Savvy participants could be in line for great success (and returns). However, as one financial website commented: “If they make a packet, they could be lambasted for profiteering at the taxpayers’ expense. But if their bets don’t pay off, they could be raked over the coals for losing taxpayers billions.”