Foreclosure of Securitized Commercial Mortgages - A Model of the Special Servicer
26 Pages Posted: 15 Aug 2011 Last revised: 15 Nov 2011
Date Written: April 23, 2011
The decision to foreclose on a CMBS mortgage is made by the special servicer. A mortgage loan is in special servicing when it is either delinquent or in a state of imminent default. A special servicer should represent the interests of the underlying CMBS bondholders by returning the highest possible value to the investors. In this paper, we show that a special servicer's compensation structure results in an incentive for her to extend a loan beyond the time desired by its bondholders. We develop a model and demonstrate how compensation incentives interact and influence a special servicer's foreclosure decisions. Our model takes into consideration the dynamic nature of such a decision by viewing is as a dynamic programming problem whereby foreclosure represents a discrete terminal state of an optimal stopping problem. This model thus captures the trade-off between continuation of a loan and termination and we use this model to determine how the stopping rule changes under various compensation structures.
Keywords: CMBS, Special Servicer, Foreclosure, Optimal Contract Design, First-loss Bond
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