CH 10 - 9 Commercial Mortgages

Question 1

1. Definition and Key Features

Answer 1

Commercial Mortgages: Loans used to buy or refinance properties that are rented to tenants.
Cashflows:
* Loan Provider: Provides the loan at outset.
* Property Owner: Pays interest and principal to the loan provider.
* Tenants: Provide rental income to the property owner.

Question 2

2. Characteristics

Answer 2

Fixed Income Instruments: Income from tenants is used to pay loan interest and principal.
Long-Term Investments: Typically offer higher yields than government bonds due to higher risks.
Principal Repayment: Outstanding principal is repaid at the end of the loan period:
* From property sale proceeds.
* Or through refinancing another loan.

Question 3

3. Risks
4. Risk Assessment by Lenders
5. Conclusion

Answer 3

Risks
* Income from tenants may not cover loan payments (e.g., void periods).
* Failure to pay interest/principal can result in the property providing security for the loan.

Risk Assessment by Lenders
Lenders assess risks by examining:
* Loan Terms: Loan-to-value ratio, terms, conditions, and legal risks.
* Collateral: Property value and income production capacity.
* Property Owner’s Profile: Financial strength and borrowing history.
* Financial/Investment Risks: Liquidity risk, refinancing risk, interest rate risk, and credit spreads.

Conclusion
* Commercial mortgages are riskier investments but offer higher yields.
* Proper risk identification and assessment are crucial for lenders.