United Nations FCU Takes The Plunge On Commerical MBS

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United Nations FCU will become one of the first credit unions in the nation to dip its feet into the commercial mortgage-backed securities market after the board gave its go-ahead last week.

Christopher Sullivan, chief investment officer for UN FCU, said he believes the new allowance will provide the $1.7-billion CU with greater investment opportunities. "It's a great diversification play," said Sullivan, who holds sway over a $960-million investment portfolio.

So far, few credit unions have expressed interest in the commercial-backed market, which was only made a permissible investment by NCUA in May. "The interest level, from what we know, is still very low," said Owen Cole, director of NCUA's Office of Strategic Program Support and Planning (formerly the Office of Investment Services), "but the permissibility is so new."

Under NCUA's new rules, federal credit union qualified for the agency's Reg- Flex, or Regulatory Flexibility, program are eligible to invest in commercial mortgage-backed securities that are either Double A-or Triple A-rated by at least two of the major rating agencies and are comprised of pools of at least 50 loans, with no single loan comprising more than 10% of the pool. Those credit unions may invest up to 50% of their net capital in CMBSs.

The NCUA board added CMBSs to the list of permissible investments for federal credit unions in order to expand the limited choices for credit unions. Residential mortgage-backed securities, which generally pay higher yields than Treasuries or agency debt, have long been a favored investment for credit unions, with credit unions holding as much as $20 billion worth of MBSs at mid-year.

Sullivan said he plans to wade into the CMBS market carefully. "We'll allocate portions of our portfolio, probably in increments of $5 million or $10 million, over time," he said.

While yields in the commercial mortgage-backed market are not much higher than those in the residential mortgage- backed market, the bonds offer good credit and prepayment protection, explained Sullivan. "It's really an excellent kind of alternative," he said.

In its July newsletter, NCUA cautioned credit unions interested in investing in the CMBS market. Among the concerns are the fact that commercial loans are not subject to the same standardization as residential loans and the fact that CMBSs are usually secured by several different property types, including offices, retail space, hotels and apartment buildings.

Difficult To Understand

That makes it more difficult to understand the payment, prepayment and credit behavior of the bonds. In addition, price volatility has periodically disrupted liquidity in the market for CMBSs because of reductions in supply, questions about creditworthiness of the underlying loans, and lack of a large investor base, NCUA said.

The lower liquidity can hamper the quick sale and result in a wider spread.

Sullivan said he is mindful of some of the complexities of the CMBS market, which he has been studying for the past few months in preparation for last week's board action.

"It does require a fair amount of monitoring," he said.

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