CMBS Overview

JUNE 2006
AN INTRODUCTION TO CMBS
CMBS RESEARCH
Alan L. Todd, CFAAC

212.834.9388 alan.l.todd@jpmorgan.com
Yuriko Iwai, CFA

212.834.9380 yuriko.iwai@jpmorgan.com
David Zhou
212.834.5302 david.x.zhou@jpmorgan.com
Agenda
Introduction Market Overview Loan Structure Bond Structure Performance CMBS Derivatives
An Introduction to CMBS
1 12 18 26 53 65
Government actions spurred development of the commercial real estate market

1974: ERISA passage sparked institutional demand for commercial property
1981: Economic Recovery Tax Act 1982: Savings & Loan Deregulation
1986-1988: Saving & Loan failure
Late 80s-early 90s: Tax reforms gave REITs greater flexibility & facilitated institutional investment
1981-1982: Back-to-back recessions
1986: Tax Reform Act of 1986
1989: FIRREA passed, set up RTC to dispose of bad commercial loans
Early 90s: RTC used CMBS market to dispose of nonperforming assets
Mid 90s-Present: Acceptance of REIT and CMBS securities flourished
What are Commercial Mortgage-Backed Securities?

FY2005 Property Type Distribution FY2005 Property Type Distribution
Commercial Mortgage Backed Securities (CMBS) are bonds collateralized by mortgages on commercial and multifamily properties that are income-producing and operated for economic profit. The mortgage payments are, in turn, dependent on the rental stream paid by tenants to the property owner (i.e., the borrower). CMBS offer diversification benefits as bonds are typically collateralized by a large number of loans with exposure to a wide range of property types and geographic regions. Main property types in CMBS collateral include retail, office, multifamily, hotel and industrial.
Other, 5% Industrial, 6% Hotel, 12% Multifamily, 17% Office, 31% Retail, 29%
FY2005 Deal Type Distribution FY2005 Deal Type Distribution

Single Asset/ Single Borrower, 6% Conduit, 81% Other, 2%
Fixed-rate conduit transactions dominate the new issue market, representing over 80% of all domestic new issuance in 2005.
Multiborrower Floater, 11%
Types of CMBS transactions

Conduit Fixed-rate transaction involving well-diversified pool of loans (typically 100 to 250 loans) The most granular and diversified of all CMBS transaction types. Conduit was the original deal structure where underlying loans were of roughly equal size (ranging from $1mm to $30mn) and were generally full leverage (80% loan-to-value ratio). More recently, the structure of conduit deals has changed. Now, deals that include large loans have become the norm. Some of the larger loans are lower-leverage shadow-rated investment-grade loans. Collateral consists primarily of 10-year fixed-rate loans with strong prepayment protection resulting in 10-year bullet bonds. Contains securities rated AAA through NR, with triple-B plus through NR bonds generally placed privately. Through the use of credit enhancement in the form of subordination, over 85% of the transaction is rated triple-A. Multiborrower-floater - Transactions typically include between 2 and 20 large loans, which generally utilize floating-rate financing Transactions require extensive real estate due diligence and analysis due to inherent lack of diversity. Contains investment-grade through below investment-grade securities and are placed privately. Borrowers obtain short-term financing with prepayment flexibility. Often contains transitional, storied properties. Analysis and execution heavily dependent on pool diversity and underlying collateral. Single Asset/Single Borrower Transactions where credit risk hinges on a single borrower or property Demand intensive due diligence and analysis. These transactions can be backed by either one large asset, such as a trophy office building or shopping mall, or by a pool of assets in which the mortgage loans are crossed-collateralized and cross-defaulted. These transactions fell out of favor post-9/11 due to the inherent concentrated event risk (e.g., 7 World Trade Center transaction, BALL 2001-7WTC).
4
Who invests in Commercial Mortgage-Backed Securities?

2005 CMBS Participation by Investor Type 2005 CMBS Participation by Investor Type
All categories of institutional investors invest in CMBS. In fact, the number of investors in the CMBS market has increased approximately 125% since 1998. The continued growth in transaction size and the introduction of senior/subordinated AAA classes has lured cross-over buyers into CMBS and away from corporates, RMBS and Agency debentures.
Hedge Fund, 10% Bank/ GSE, 24%
Other, 3%
Insurance/ Pension Fund, 38%
Money Manager, 25%

2002 CMBS Participation by Investor Type 2002 CMBS Participation by Investor Type
Typical CMBS buyers by bond ratings Typical CMBS buyers by bond ratings An Introduction to CMBS
Class rating AAA Typical buyers Insurance companies, pension funds, hedge funds, money managers, government sponsored entities and banks Insurance companies and hedge funds Money managers and insurance companies CBO/CDO issuers, insurance companies, pension funds and money managers B-piece buyers
Other, 4% Hedge Fund, 5%
IO AA A BBB BBBBB B NR
Insurance/ Pension Fund, 38%
Bank/GSE, 41% Money Manager, 12%
Why do investors purchase commercial real estate assets?

Good diversification with respect to other institutional-grade assets Commercial properties often contain tenants encompassing many lines of business, making the properties cash flows less susceptible to fluctuations of any one particular sector of the economy. Good inflation hedge. Excellent liquidity Diversified real estate exposure can be easily obtained via ownership through the CMBS market. Strong historical performance spurred interest in both direct equity investments as well as for securitized products. Strong institutional sponsorship for CMBS Performance for public assets is easy to monitor and track. CMBS have begun to replace direct investment as the medium of choice for many institutional investors, including: Banks Insurance companies Pension funds/Endowments. Excellent returns and credit performance Historical direct, un-levered investment in commercial real estate has annually returned approximately 9.5%. Investment-grade CMBS have realized cumulative total returns of over 60% since January 20001. Unrated CMBS bonds currently offer annual yields of approximately 20%.
1. Commercial Mortgage Alert
Issuers utilize the CMBS market for a variety of reasons

Who
Wall Street firms and other operators of conduit programs Banks, thrifts and insurance companies
What
securitize portfolios of newly originated loans
Why
to empty the warehouse and take profits
securitize portfolios of seasoned loans
to clear the balance sheet, adjust exposures or exit the sector to finance the acquisition and/or cash out of the investment to secure attractive financing as an alternative to a portfolio lender
Wall Street firms and real estate opportunity funds
acquire and securitize portfolios of seasoned loans
Owners of large commercial properties and pools of smaller commercial properties
issue securities backed by mortgages on those properties
Basic securitization concepts:

Receivables Receivables Monthly principal & interest payments Seller Seller Commercial Banks Investment Banks Finance/Mtge co. Insurance company True Sale Special Purpose Special Purpose Vehicle Vehicle Issue CMBS
Commercial Mortgages
Investors Investors Trust
A pool of receivables is sold by originators into a special purpose vehicle. Bonds represent an ownership interest in this pool. Loans are typically secured by assets with relatively predictable cash flows.
Assets are legally separated from the seller, limiting investor exposure to the seller. Feature credit enhancements which lead to high credit ratings.
Overview of loan origination and securitization process
CMBS Loan Origination

Loan Origination, Structuring & Pricing Underwriting, Credit Committee Approval
Closing/ Documentation
Assemble pool of mortgages from internal warehouse and partner contributions
CMBS Securitization
Rating Agency Due Diligence & Subordination Levels
Private Placement of Subordinate Bond Tranches
Prospectus, Pooling & Servicing Documentation
CMBS Underwriting, Trading & Sales
Six general steps of the rating agency credit rating process

Rating agency methodology is generally consistent across securitized products
Collateral review
Due diligence
Legal considerations
Structural analysis
Rating committee
Rating surveillance
Delinquency summary Collections Losses Recoveries Credit line ranges Geographic distribution Industry distribution Collateral rating/credit grade distribution Biographies of key personnel
Company and mgmt. overview Origination practices Underwriting Investment philosophy Cash management and remittances Monitoring and collection process Systems/technology review Quality control
Analysis of legal documents Review of legal opinions Bankruptcy analysis for banks vs. nonbanks Evaluation of bankruptcy remote SPVs Review of legal transfers, ownership and security interests Tax treatment
Trust structure Cash flow allocations Mechanics of credit enhancement/ protection mechanisms Role of servicer Stress tests
Evaluate transaction and credit enhancement Issue deal reports Issue rating letter
Ensure rating reflects performance and transaction structure Identify transactions to be considered for ratings change Maintain contact with issuer Issue press release to notify public of rating change
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Role of loan servicer

Master servicer collects loan payments, maintains records and provides investor reports and payment advances to the trust. Special servicer forecloses, re-structures, or works out loans that become delinquent or suffer other adverse events Legal documents often provide for the holders of the first-loss securities to control the activities of the special servicer. Servicing of commercial mortgage loans involves greater discretion than servicing for other types of loans servicer must use judgment to maximize recovery value of the property. Rating agencies review and approve the servicers capabilities as an integral element of CMBS ratings.
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Agenda
1 12 18 26 53 65
Issuance volume has grown as the market matures

Global CMBS annual volume ($ Billions) Global CMBS annual volume ($ Billions)
250
Domestic
200
International
70
150
100 1 9 50 0 14
19 92 19 93
35 23 29 12 47 67 78 52 93 21 169
31
4 0 17
19 94
3 15
19 95
0
19 90
1 3
19 91
1 8
1 16
19 96
1 26 37
74
89
57
Source: Commercial Mortgage Alert
Cumulative domestic issuance is above $860 billion, with about $577 billion outstanding as of the end of the first quarter in 2006.
20 06 1H
19 98
19 99
20 00
20 01
20 02
20 03
19 97
20 04
20 05
13
CMBS issuance by deal type

CMBS Supply by Deal Type ($ millions) CMBS Supply by Deal Type ($ millions)
Conduit Multiborrower Floater Single Asset/Single Borrower Other

*
FY2000 FY2001 FY2002 FY2003 FY2004 FY2005 29,795 40,462 36,274 54,282 73,960 136,160 11,232 4,766 1,100 46,893 12,116 1,148 1,328 10,506 13,586 2,599 67,153 22,714 4,466 4,931 11,564 3,424 812 52,074 28,706 12,832 6,850 15,032 7,612 925 77,851 20,803 5,585 7,983 13,094 4,441 1,618 93,113 35,197 8,402 6,220 18,649 10,784 2,927 168,520 70,299 21,263 4,625
% of 1H 2006 Total 75,679 85.3% 4,919 5.5% 6,625 7.5% 1,455 1.6% 88,678 100% 30,580 13,853 3,531
FY2006 Forecast 130,000
% yoy chg
-5% 13,000 -30% 12,000 11% 3,000 2% -6% 32% 30%
U.S. Total International CRE CDO Agency

**
158,000 28,000 6,000
61,000 -13%
* Other includes lease-backed deals and seasoned loan deals. ** CRE CDO data reflect U.S. and international deals that are composed of at least 50% CMBS or commercial real estate loans. Source: Commercial Mortgage Alert, JPMorgan
Despite the heavy fixed-rate conduit issuance in the first half of the year, we expect a slowdown in the second half of the year from the tempering of the demand for loans due to rising interest rates. We expect FY 2006 conduit issuance of around $130 billion, roughly 5% less than in 2005. Expect less multiborrower floaters with more floating rate loan candidates being originated as shorter term fixed-rate loans or placed in CDO structures. In sharp contrast to 2004-2005 when international issuance volume surged, international issuance slowed in 1H 2006 due to a sharp decline in issuance in the U.K. We forecast 2006 international issuance of $61bn, a 13% drop from 2005.
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Commercial mortgage debt outstanding

Commercial mortgage outstandings end of period, not seasonally adjusted ($ billions) Commercial mortgage outstandings end of period, not seasonally adjusted ($ billions)
2005 1995 Commercial Banks Life Insurance Companies Savings Institutions GSEs and Federal-Related Federal, State & Local Gov't All Others Total - Ex-CMBS CMBS Outstandings CMBS % Total 420 195 114 45 79 107 960 54 5.4% 1,014 1996 443 191 114 50 77 112 987 70 6.6% 1,057 1997 473 189 111 54 76 135 1,037 96 8.5% 1,133 1998 511 196 110 65 83 136 1,099 157 12.5% 1,256 1999 584 212 119 78 119 128 1,240 199 13.8% 1,439 2000 660 218 128 91 118 129 1,344 234 14.8% 1,578 2001 731 224 137 115 117 131 1,454 279 16.1% 1,733 2002 798 232 149 136 116 134 1,565 309 16.5% 1,875 2003 868 243 167 174 119 145 1,715 362 17.4% 2,077 2004 983 255 182 190 124 158 1,891 423 18.3% 2,314 Q1 1,011 256 184 191 126 159 1,927 443 18.7% 2,370 Q2 1,048 259 191 191 126 163 1,977 476 19.4% 2,453 Q3 1,098 262 193 193 128 167 2,040 499 19.7% 2,540 Q4 1,135 267 197 195 130 172 2,094 553 20.9% 2,647 2006 Q1 1,172 269 202 198 131 175 2,147 577 21.2% 2,724
Source: Flow of Funds Accounts, Federal Reserve Board of Governors, Commercial Mortgage Alert, JPMorgan
CMBS continue to increase in share of total commercial mortgage outstandings. CMBS represent 21% of the commercial mortgage market at $577 billion as of the end of 1Q 2006.
15
Loan concentrations change in response to property type performance and expectations

U.S. Conduit Issuance by Property Type U.S. Conduit Issuance by Property Type
Multi-
Mobilehome 3.3% 3.9% 2.4% 2.0% 2.0% 1.9% 1.9% 2.1% 2.6% 4.3% 1.4% 1.3% Retail 30.6% 29.2% 30.3% 28.3% 27.9% 27.9% 29.6% 36.0% 38.5% 35.8% 32.0% 31.9%
Warehouse/ Industrial 9.8% 7.2% 7.3% 7.4% 8.0% 10.5% 9.8% 10.3% 6.4% 6.8% 6.8% 7.1% Other 2.0% 0.4% 1.6% 5.3% 4.5% 3.5% 2.3% 2.0% 2.5% 2.5% 2.9% 2.8%
Year 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006*
Office 5.4% 8.4% 17.0% 17.3% 20.1% 25.8% 29.1% 24.9% 28.4% 31.2% 33.6% 30.0%
Hotel 7.5% 10.0% 10.4% 11.3% 8.1% 6.4% 5.0% 1.5% 2.6% 3.1% 7.6% 11.6%
family 34.4% 38.9% 26.9% 25.7% 27.3% 23.1% 22.3% 23.3% 19.0% 16.3% 15.6% 15.1%
Nursing 6.9% 2.0% 3.9% 2.8% 2.0% 0.8% 0.1% 0.0% 0.0% 0.0% 0.1% 0.2%
* As of 2Q 2006
Source: Commercial Mortgage Alert
Core property types remain office, retail and multifamily. Property type concentrations shift as investors re-evaluate the attractiveness of each. As shown, the hotel sector has recently made a comeback.
16
Metropolitan Statistical Area (MSA) concentrations*

Top 25 MSAs in conduit deals Top 25 MSAs in conduit deals
Metropolitan Statistical Areas 1 New York-New ark-Edison, NY-NJ-PA 2 Los Angeles-Long Beach-Santa Ana, CA 3 Washington-Arlington-Alex andria, DC-VA-MD-WV 4 Chicago-Naperv ille-Joliet, IL-IN-WI 5 Dallas-Fort Worth-Arlington, TX 6 Houston-Bay tow n-Sugar Land, TX 7 Miami-Fort Lauderdale-Miami Beach, FL 8 Philadelphia-Camden-Wilmington, PA-NJ-DE-MD 9 Atlanta-Sandy Springs-Marietta, GA 10 San Francisco-Oakland-Fremont, CA 11 Phoenix -Mesa-Scottsdale, AZ 12 Boston-Cambridge-Quincy , MA-NH 13 Las Vegas-Paradise, NV 14 San Diego-Carlsbad-San Marcos, CA 15 Detroit-Warren-Liv onia, MI 16 Baltimore-Tow son, MD 17 Seattle-Tacoma-Bellev ue, WA 18 Riv erside-San Bernardino-Ontario, CA 19 Denv er-Aurora, CO 20 Orlando, FL 21 San Jose-Sunny v ale-Santa Clara, CA Balance ($bn) 60.3 33.9 22.3 15.6 14.7 12.7 12.2 11.7 10.9 10.6 9.8 9.4 9.0 8.4 7.4 6.6 6.3 5.6 5.2 4.9 4.4 4.2 4.2 4.0 3.6 146.9 298.0 463.0 % 13.0% 7.3% 4.8% 3.4% 3.2% 2.8% 2.6% 2.5% 2.4% 2.3% 2.1% 2.0% 1.9% 1.8% 1.6% 1.4% 1.3% 1.2% 1.1% 1.1% 1.0% 0.9% 0.9% 0.9% 0.8% 31.7% 64.4% 100.0%
Top 25 MSAs in floating rate deals Top 25 MSAs in floating rate deals
Metropolitan Statistical Areas 1 New York-New ark-Edison, NY-NJ-PA 2 Chicago-Naperv ille-Joliet, IL-IN-WI 3 Los Angeles-Long Beach-Santa Ana, CA 4 Washington-Arlington-Alex andria, DC-VA-MD-WV 5 Miami-Fort Lauderdale-Miami Beach, FL 6 Orlando, FL 7 San Francisco-Oakland-Fremont, CA 8 Phoenix -Mesa-Scottsdale, AZ 9 Dallas-Fort Worth-Arlington, TX 10 Houston-Bay tow n-Sugar Land, TX 11 Honolulu, HI 12 Minneapolis-St. Paul-Bloomington, MN-WI 13 Boston-Cambridge-Quincy , MA-NH 14 Atlanta-Sandy Springs-Marietta, GA 15 San Jose-Sunny v ale-Santa Clara, CA 16 Springfield, MA 17 Detroit-Warren-Liv onia, MI 18 Pittsburgh, PA 19 Tampa-St. Petersburg-Clearw ater, FL 20 San Diego-Carlsbad-San Marcos, CA 21 Las Vegas-Paradise, NV 22 Albany -Schenectady -Troy , NY 23 Buffalo-Cheektow aga-Tonaw anda, NY 24 New Orleans-Metairie-Kenner, LA 25 Nashv ille-Dav idson--Murfreesboro, TN Top 5 MSAs Top 25 MSAs All MSAs Balance ($bn) 5.9 1.6 1.5 1.0 1.0 0.8 0.7 0.7 0.6 0.5 0.5 0.5 0.4 0.4 0.4 0.3 0.3 0.3 0.3 0.3 0.3 0.3 0.2 0.2 0.2 11.0 19.2 32.1 % 18.4% 5.0% 4.7% 3.1% 3.1% 2.5% 2.3% 2.1% 2.0% 1.5% 1.5% 1.5% 1.3% 1.3% 1.2% 0.9% 0.9% 0.9% 0.9% 0.8% 0.8% 0.8% 0.8% 0.7% 0.6% 34.3% 59.7% 100.0%
22 Minneapolis-St. Paul-Bloomington, MN-WI 23 Tampa-St. Petersburg-Clearw ater, FL 24 Charlotte-Gastonia-Concord, NC-SC 25 Sacramento--Arden-Arcade--Rosev ille, CA Top 5 MSAs Top 25 MSAs All MSAs
Source: Trepp * As of 7/17/06
CMBS loans are concentrated in large cities including NY, LA, DC and Chicago.
17
Agenda
1 12 18 23 50 63
Some important terms Net Cash Flow

Net Cash Flow (NCF) is the property cash flow remaining after underwritten reserves are subtracted. Examples of reserves include: Capital Expenditures (CapEx) Replacement of major building systems such as roofs Tenant Improvements Physical improvements to the property to attract new tenants to new or vacated space Leasing Commissions Payments for a real estate broker or leasing agent to help re-lease vacant space Replacement Reserves Property maintenance costs
Example of Net Cash Flow (NCF) Calculation Example of Net Cash Flow (NCF) Calculation
Underwritten Effective Gross Income Total Expenses Net Operating Income (NOI) TI/LC, CapEx, & RR Reserves CapEx Tenant Improv ements (TI) Leasing Commissions (LC) Replacement Reserv es (RR) Total Reserves Net Cash Flow (NCF) $ $ $ $ $ $ 10,318 12,897 23,215 46,430 3,045,812 $ $ $ 4,195,198 1,102,956 3,092,242
NCF is used to calculate debt service coverage ratios (= NCF / Debt Service) and can also be used to estimate property values (= NCF / Cap Rate). The capitalization rate (Cap rate), which is calculated as NCF / Property Price can be seen as a property investors required rate of return.
19
Some important terms Loan-to-Value / Debt Service Coverage ratios

Loan to Value (LTV) and Debt Service Coverage (DSCR) Calculation Loan to Value (LTV) and Debt Service Coverage (DSCR) Calculation
Basic formulas LTV = Loan Amount / Property Value DSCR = Cash Flow (NOI or NCF)/ Debt Service (i.e., Principal + Interest) Actual LTV and DSCR - based on appraised values and actual debt service as follows: Actual LTV = Loan Amount / Appraised Property Value = $36,750,000 / $46,100,000 = 79.7% Actual DSCR = Net Cash Flow / Actual Debt Service Payments (during amortization period) = $3,045,812 / $2,529,742 = 1.20 Stressed LTV and DSCR - based on rating agency cap rate and constants as follows: Stressed LTV = Loan Amount / Est. Rating Agency Value (i.e., NCF / Rating Agency Cap Rate) = S36,750,000 / ($3,045,812/9.25%) = 111.61% Stressed DSCR = Net Cash Flow / Rating Agency Debt Service (i.e., Loan Amount X Rating Agency Constant) = $3,045,812 / ($36,750,000 X 10.09%) = 0.82
LTV and DSCR are used to calculate loan proceeds and pricing. LTV and DSCR are important indicators of default potential. DSCR is a better predictor of term defaults. LTV is a better predictor of balloon-date defaults.
20
Some important terms Default risk

Definition of defaults (Fitch): Loans that are 60 days or more past due on a debt service payment or 90 days or more past due on a balloon payment Function of LTV and DSCR
Example Using the earlier 80% LTV loan example, assume a large tenant representing 20% of the property cash flow vacates at the beginning of year 5. As a result, NOI subsequently declines 20% in Year 5 and DSCR drops below 1.0x. In contrast, if the loan were underwritten as a 70% leverage loan, even with a large tenant vacating, the DSCR would remain above 1.0x.
Case I Actual 80% Leverage LTV (%)*

Case II 70% Leverage LTV (%)* 70.0 68.2 DSCR** 1.37x 1.10x
DSCR** 1.20x 0.96x
Underwritten Year 5
79.7 77.7
* LTV calculated off of appraised value at issuance. ** DSCR based off of debt service during amortization period.
21
Some important terms Extension (Balloon) risk

Aspect of credit risk Risk that there will not be enough income and equity to pay off the balloon balance and the loan will extend Most loans have 20- to 30-year amortization schedules, which help mitigate extension risk as it lowers the principal balance due at the balloon date
22
Mitigating prepayment risk: Common prepayment penalties for fixed-rate conduit loans
0-6 Month Free Period
Defeasance No Penalty
Hard Lockout Yield Maintenance
Fixed Penalty (5-4-3-2-1)

2 to 5 Years
10 Years
23
Prepayment risk and call protection

Strong call protection in fixed-rate loans help protect CMBS investors from prepayments (i.e., early return of principal). Call protection terminology: Hard lockout: No prepayments allowed. Defeasance: Borrower cannot prepay the loan but may substitute a portfolio of US Treasury bonds as collateral that replicates the original loans remaining cash flow stream. Once a loan is defeased, the credit quality of the deal it collateralized actually improves because there are no longer any credit concerns associated with the loans future cash flows. Yield Maintenance: Borrower can only prepay the loan by paying a penalty, generally equal to the present value of the lost coupon when compared to US Treasury rates, or 1%, whichever is greater. Prepayments during the yield maintenance period often result in higher rates of return than would be obtained otherwise.
Current exposure by type of call protection: Hard lockout then defeasance (> 90% of all fixed-rate loans). Hard lockout then yield maintenance (5% -10% of all fixed-rate loans). Hard lockout then a set penalty schedule such as 5%, 4%, 3%, 2%, 1% year by year (not common). Lock-out followed by defeasance is preferred by bond investors because it results in the most stable cash flow.
24
Traditional loan structure

Fixed-Rate Loans Fixed-Rate Loans Floating-Rate Loans Floating-Rate Loans
Typically 10-year loan terms (few selfamortizing loans) 20 to 30 year amortization period Spread + 10-year Treasury
Shorter loan terms (2 to 5 years) Interest only terms Spread + 1 month Libor; embedded interest rate caps and floors Can be transitional property Generally have DSCRs of 2.00 to 4.00x and LTVs of 40 to 65% Typically have 1-2 years of prepayment lock-out followed by ability to freely prepay or prepay with yield maintenance or percentage penalty Same
Stabilized property Minimum DSCR of 1.20 to 1.25x; Maximum LTV of 75 to 80% 2-5 years of prepayment lock-out followed by ability to prepay via defeasance, yield maintenance or other penalty
Requires TI/LC escrows, real estate tax escrows, and capital expenditure reserves Non-recourse to the borrower Structured as single asset entity and special purpose vehicle
Same Same
25
Agenda
1 12 18 26 53 65
Investors analyze CMBS across three categories

Credit considerations
Collateral Historical loan performance (yield, losses, recoveries) Individual loan characteristics (LTV, implied credit grade) Loan servicer/sponsor Financial strength/competitive position Overview of operation and management Bond structure Mechanics of credit enhancement/rating Priority of cash flows Role of servicer Swap/derivative structure Counterparty exposure limits Legal structure
Liquidity considerations
Liquidity Depth of investor base Total issuance for asset class Sector growth potential Issuer name recognition Issuer track record Established deal structure Transaction size/tranche size Public, private, 144A, ERISA, 2a-7, global offering, etc. Bid/ask spread
Cash flow considerations

Cash flow Fixed/floating Currency Average life Projected principal payment window amortizing/bullet Principal lockout Capped/uncapped Expected maturity Legal maturity Call option(s)
27
Classic bond structure pre-2005 conduit transaction

Subordination 15.00%
5-yr. AAA $210MN 10-yr. AAA $980MN X(IO) AAA $1.4BN notional
10.50%
AA
$62MN
5.50% 5.00% 2.50%

Principal and interest
$1.4BN mortgage pool
8.10%
$35MN
BBB
$35MN
Losses
BBB-
$7MN
10-year
BB
$35MN
1.25%
$18MN
Unrated
$18MN
Sequential pay structure with principal and interest applied first to senior classes and losses applied first to lower-rated bonds. Rating agencies determine subordination levels, which sets bond class sizes.
28
A closer look at traditional conduit structures issued pre-2005

Triple-A bonds accounted for about 80% of the total transaction. Most pre-2005 triple-A structures had only 2 tranches: 5-year average life wide-window and 10-year average life tight-window. Subordination levels declined as issuers included more investment-grade loans in transactions Investment grade loan exposure accounted for 13% of fixed-rate conduit collateral in 2005
Weighted-average fixed-rate conduit CMBS subordination (%) Weighted-average fixed-rate conduit CMBS subordination (%)
1996 AAA AA A
1997 30.3 24.1 18.5 13.3 11.5 6.0 3.0
1998 28.8 23.7 18.7 12.6 10.9 5.8 3.2
1999 27.0 22.3 17.3 12.3 10.5 6.1 2.9
2000 22.2 17.8 13.7 9.6 8.3 4.5 2.1
2001 20.5 16.3 12.7 8.5 7.6 4.4 2.2
2002 19.4 15.8 12.0 8.2 7.2 4.1 2.1
2003 16.4 13.4 9.8 6.2 5.2 3.2 1.8
2004 13.7 11.1 8.2 4.9 3.6 2.7 1.6
2005 12.7 10.5 7.8 4.6 3.4 2.5 1.6
31.5 25.3 19.7 14.8 12.6 7.9 3.3
BBB BBBBB B
Source: Rating Agency Presale Reports, JPMorgan
29
New bond structure Late 2004 to present

Triple-A bonds now account for 85-90% of a total transaction. Triple-A bonds have become more highly structured, which we view as inevitable in a maturing market: To address investor concerns regarding declining subordination levels, senior/subordinated triple-A bonds are now routinely included. Additional front-pay bonds with shorter average lives (3-year A/L). Tight window 5yr and 7yr triple-A bonds. Multifamily-directed triple-A bond. 7yr triple-A scheduled-pay bond (A-AB or ASB bond).
Can include triple-A bonds swapped to floating rate using a balance guaranteed swap.
30
New bond structure JPMCC 2006-CIBC14 conduit transaction

Subordination 30.000%
3-yr. AAA $63 MN 5-yr. AAA $141 MN 7-yr. AAA $119 MN 7-yr. ASB AAA $120 MN 9.7-yr. AAA $977 MN X(IO) AAA $2.5 BN notl 8-yr. A1A AAA $430 MN
20.000% 12.375%
AAA
$279 MN
AAA
$213 MN
$2.5 BN mortgage pool
10.125% 7.750% Principal and interest 4.500%
AA
$63 MN
$42 MN
BBB
$28 MN
10-year
Losses
3.000% 2.125% 1.375%
BBB-
$42 MN
BB
$14 MN
$7 MN
Unrated
Source: JPMorgan
$31 MN
31
Collateral pool composition
Collateral Pool
nly
Interest Only
Inter est O
5-year loans
7-year loans
10-year loans
tO res e I nt
P& I
P&I
I P&
nly
32
Loan breakout by original maturity term

Original Maturity Term 60 61-84 85-120 121-180 181-240 Total
JPMCC 2006-CIBC14 JPMCC 2006-CIBC14 Total by Dollar Amount
Total by Count 7 9 183 6 2 207
$ $ $ $ $ $
182,076,845 142,367,866 2,390,315,841 48,583,688 24,189,313 2,787,533,553
Original Maturity Term by Dollar Amount Original Maturity Term by Dollar Amount
181-240, 1% 121-180, 2% 60, 7% 61-84, 5%
Original Maturity Term by Count Original Maturity Term by Count

181-240, 1% 60, 3% 121-180, 3% 61-84, 4%
85-120, 86%
85-120, 88%
Source: JPMorgan
33
P&I payment diagram

P&I Payment Diagram P&I Payment Diagram
Balloon payment 5-year loan P&I
Balloon payment 7-year loan P&I
Balloon payment
10-year loan
P&I
Loan Term (in months)
60
84
120
34
Triple-A capital structure

JPMCC 2006-CIBC14 Triple-A Capital Structure JPMCC 2006-CIBC14 Triple-A Capital Structure
Face Amount ($mn) $ $ $ $ $ $ $ $ 63 141 119 977 120 430 279 213 Credit Support 30.000% 30.000% 30.000% 30.000% 30.000% 30.000% 20.000% 12.375% Payment window 4/06-7/10 8/10-3/11 3/13-3/14 5/15-1/16 7/10-5/15 4/06-1/16 1/16-1/16 1/16-1/16
Class A-1 A-2 A-3B A-4 A-SB A-1A A-M A-J

Source: JPMorgan
Rating Aaa/AAA Aaa/AAA Aaa/AAA Aaa/AAA Aaa/AAA Aaa/AAA Aaa/AAA Aaa/AAA
WAL 2.46 4.48 7.69 9.73 6.91 8.82 9.82 9.82
35
Triple-A capital structure diagram

Amortization Wide window bonds A-1: 4/06-7/10 A-SB: 7/10-5/15
BONDS
Tight window bonds Pricing 3/06 P&I 5-year loan
A-2: 8/103/11
A-3B: 3/133/14
A-4: 5/151/16
A-M, A-J: 1/161/16
Balloon repayments
Balloon payment
7-year loan
P&I Balloon payment
LOANS
10-year loan
P&I Balloon payment
Loan Term (in months)
60
84
120
36
Analyzing the bonds

Wide-window 3-year AAA: NOT interest rate sensitive (i.e., no prepayments due to loan-level lockout) Credit bond analysis required, although diverse repayment source (loan amortization) and young loan age will result in few (if any) defaults. Tight-window 5-year AAA: NOT interest rate sensitive (hard lockout followed by 1) defeasance or 2) yield maintenance) Credit specific analysis required, focusing on loans with term dates that occur during bond repayment window Focus on loans with full-term IO, coupon dispersion from mean, low DSCRs 3 CDR type analysis does not apply Need to consider the possibility that loans may extend at their maturity date
Tight-window 7-year AAA: Somewhat interest rate sensitive. Loans have exited hard lockout. May prepay via yield maintenance. Credit specific analysis required, focusing on loans with term dates that occur during bond repayment window Focus on loans with full-term IO, coupon dispersion from mean, low DSCRs 3 CDR type analysis does not apply Need to consider the possibility that loans may extend at their maturity date
37
Analyzing the bonds

Wide-window 7-year AAA (A-SB): Somewhat interest rate sensitive. Loans have exited hard lockout. May prepay via yield maintenance. Credit bond analysis required, although diverse repayment source (loan amortization) will result in few (if any) defaults.
Tight-window 10-year AAAs (A-4, A-M, A-J): Somewhat interest rate sensitive. Loans have exited hard lockout. May prepay via yield maintenance or freely prepay in the open period. Less credit specific analysis required, since bulk of loans maturing. 3 CDR type analysis does apply. We recommend a more realistic 0.5 CDR, 12 month lag to recovery, 35% severity of loss, 100% P&I advance by servicer. Can overlay loan-specific scenarios
38
Interest only bonds (IOs)

Single IO strip
Traditional IO strip defined as the adjusted NWAC of the loans minus the NWAC of the principal bonds Large amount of proceeds is at times difficult to clear in the market
Two IO strips (PAC and Support)

The PAC IO is stripped from the traditional IO. Its notional amount and size is determined assuming certain default and prepayment scenarios PAC IOs generally have a limited WAL of 6.25 years and a cash flow duration of about 3.25 years The Support IO is the leftover and bears most of the brunt in the event of early prepayment
Note: The general pricing scenario for IO structures assumes 100 CPR after lockout and yield maintenance (this is also referred to as 100CPY)
39
Subordinate bonds (the B-piece)

BB+ through Unrated bonds (below investment-grade). Bidding process Preliminary information sent to a group of known investors for indicative bid, Winning bidder then selected who performs full due diligence before providing a final bid. Typically purchased by investors with real estate expertise, often with a capital partner. Often have special servicing capabilities Ability to choose special servicer is typically held by buyer of the most subordinate class, Special servicer handles problem loans on behalf of the trust. Due Diligence Loans are re-underwritten in a fashion similar to rating agencies, B-piece investors occasionally reject loans from a pool.
40
The B-piece market has become highly competitive

The combination of attractive relative yields, strong historical performance and the growth in the CDO market has resulted in several new B-piece buyers entering the market and has created a much more competitive environment In 2001, GMAC, ARCap, Allied, and Lennar controlled 87% of the B-piece market. By 2003, 4 new buyers entered the market, and that number dropped to 64% and was 39%, as of year-end 2005. After shrinking in size by 7% in 2004 due to a significant decline in credit support levels, the B-piece market volume grew by 57% in 2005 due to a dramatic increase in overall fixed-rate issuance. Given the decline in credit support levels, B-piece buyers have had to increase their activity to maintain similar investment levels; 5 B-piece buyers invested in multiple transactions during 2001; 9 B-piece buyers did so during 2005. Over the last several years, we have seen a significant compression in B-piece spreads due to the increase in the number of investors pursuing higher yielding bonds.
B-piece market highlights B-piece market highlights
% change/Actual change Number of deals Total notional ($ billions) Number of B-piece buyers Size of the B-piece market ($ billions) Number of multiple B-piece buyers Average BB spread Average B spread
Source: JPMorgan and Commercial Mortgage Alert
2001 2002 2003 2004 2005 33 36 46 57 55 $33.220 $35.347 $53.379 $71.449 $120.361 7 7 11 10 11 $2.556 $2.472 $2.765 $2.583 $4.066 5 7 8 9 9 547 892 513 923 428 859 344 810 297 711
200203 27.8% 51.0% 57.1% 11.9% 14.3% (85) (64)
200304 23.9% 33.9% (9.1)% (6.6)% 12.5% (84) (49)
2004-05 (3.5)% 68.5% 10.0% 57.4% 0% (47) (99)
41
Floating-rate CMBS overview

Have less call protection than fixed-rate loans, which makes adverse selection an issue: Good loans prepay leaving underperforming assets to support the trust. With interest rates down sharply over the past several years, prepays have been heavy in deals backed by stabilized properties. In deals backed by turn-around properties, recession weakness and property price declines have resulted in fewer prepays and greater exercise of extension options; borrower must credit-qualify to exercise extension options. Pro-rata structure allows for partial pay down of junior bond classes pari passu with senior bond classes; stabilizes WAL of senior bonds while mitigating credit concerns of B-piece investors.
42
Review of typical floating rate loan characteristics

Loans are generally uncapped & float over LIBOR. Additional protection provided by a separate interest rate cap pledged to the trust. Counterparty is typically AAA or AA rated Almost always float over one month LIBOR Mostly interest only Loans have either a two- or a three-year initial term. One-year extensions bring maximum term to five years Often must pass DSCR and LTV tests to extend, & a no default test Must buy additional interest rate caps to extend Borrower usually pays a fee to extend (% to %) - fee typically retained in some fashion by the loan seller Loans are locked-out from prepayment for 1 to 2 years. Step-down penalties for next 12 to 18 months following lockout (varies by issuer) Prepayment penalties collected usually used to compensate the IO holders The total debt on the property is often more than the debt securitized in the Trust. Securitized loan is almost always shadow-rated at least BBBJunior participation or mezzanine debt may also exist Many floating rate loans are collateralized by multiple properties.
43
Floating rate credit structure

Triple-A bonds now account for 85-90% of a total transaction. Triple-A bonds have become highly structured, which we view as inevitable in a maturing market: Senior/Subordinate structure from AAA to BBBSuper-Senior class almost always exists IO classes are typically AAA Average life of bonds is typically 1-3 years, but can extend to a final maturity of 5 years Some deals use straight sequential structure All principal is used to retire the most senior bonds first Interest cash flows also paid to senior class first
Many deals use a modified Pro-Rata Structure Partial pay down of junior bond classes pari passu with senior bond classes. Most of these deals have a trigger that switch to a sequential pay structure when only a few loans or less than 30% of the original principal balance remains Prepayment penalties are often used to compensate the IO; Extension fees often go to the loan seller.
44
Floating rate bond structure

Principal Payment: Amortization, Repayments, Prepayments, Recoveries Interest Payments: Interest Collected Cap payments Misc. Fee Payments: Prepayment Penalties Extension Fees
r ce Un
Fre ely P
Yie ld Ma in
te na nc e
in ta
e bl ya pa re tP No
Interest
Principal
rep ay ab le
sh Ca ow Fl
AAA Super Senior

Excess Penalties
Retained by seller
AAA Subordinated AA Bonds A Bonds BBB Bonds

Losses
AAA IO Call Protected
AAA IO NOT Call Protected (often retained)
[Pari-Passu with Super Senior]
45
Floating rate structure at the triple-B level

Two Variations at the triple-B Level Rake Structure not used since 2003 Individual triple-B bonds are supported by specific portions of the collateral
Pooled Structure All triple-B bonds secured by all collateral
46
Conceptual View of Rake Structure
AAA Principal Bonds AA+ AA AAA+ A ABBB+ BBB+ BBB+ BBB+ BBB BBB BBB BBB- BBB- BBBL1 L2 L3 L4 L5
AAA IOs
BBB+ BBB BBBL6 L7
B1
B2
B3
B4
B5
B6
B7
47
Conceptual View of Pooled Structure
AAA Principal Bonds AA+ AA AAA+ A ABBB+ BBB BBBAll Collateral (First Mortgages) Pooled
L1 L2 L3 L4 L5 L6 L7
AAA IOs
B1
B2
B3
B4
B5
B6
B7
48
Why Investors Like Large Loan Floaters

Spread: Wide compared with many other assets U.S. Real Estate markets are improving GOOD CARRY: Bonds can be repod at attractive rates and haircuts CDO GROWTH: The Commercial Real Estate CDO market is growing BBB floaters are a natural raw material CDO liabilities are also mostly floating. These bonds do not require the cost of buying (potentially amortizing) swaps
49
Why Investors Do Not Like Large Loan Floaters

Triple-A bonds now account for 85-90% of a total transaction. Repayment is dependent on a handful of large loans. Adverse selection results in better loans prepaying while lesser quality loans often extend. Transitional properties increase balloon-date default risk. Loans are typically freely prepayable after 12 to 18 months, which introduces risk of early repayment. Short average life: Loans have 2- to 3-year terms extendable only to five years.
Can an investor get a floating-rate CMBS that offers: The credit quality, diversification and subordination of a fixed-rate AAA bond. Any WAL from 5 to 10 years designed specifically to meet investor demand. Cash flow stability with respect to bond extensions or shortening? Yes, through a balance guarantee swap embedded in a fixed-rate triple-A conduit bond.
50
Typical fixed-rate capital structure

(Prepayments (pure & default recoveries)
JPMCC 2005-LDP2 offered certificates Underlying bonds are positioned in the middle of the triple-A capital Class Rating WAL C/E structure and better protected than pure floating-rate CMBS from A-1 AAA 2.65 30.000%
A-2 A-3 AAA AAA 4.91 6.97 6.98 9.81 7.01 9.90 9.98 NA 9.98 9.98 9.98 9.98 9.98 30.000% 30.000%
Shortening Extension Risk Underlying bonds have the following characteristics
A-3A AAA A-4 AAA
30.000% 30.000% 30.000% 20.000% 12.750% NA 12.125% 10.750% 9.875% 9.000% 8.000%
20-30% subordination Bond can be selected to match investor WAL requirements Fixed coupon is guaranteed Most issuers price at least 1 conduit deal each quarter Consistent supply alleviates supply/demand imbalance Floating rate issuance equals about $15bn each year
Losses due to default
A-SB AAA A-M A-J X-2 B C D E F AAA AAA AAA AA+ AA AAA+ A
Conduit issuance has grown steadily each of the past five years and totaled $136bn in 2005 These characteristics make triple-A CMBS excellent balance guarantee swap candidates
51
Balance guarantee swap mechanics

Balance Guarantee Swap Trade Balance Guarantee Swap Trade
1 month Libor + 22
Investors
$ A-M Coupon (S + 32)
Trust
1 month Libor + 22
Flow Options Desk
JPMCC as BGS Provider
Swaption
By issuing floating-rate liabilities, the Trust is exposed to the interest rate mismatch between the fixed-rate return earned on the assets and the floating-rate payable on the liabilities The Trust is required to execute a swap in order to eliminate any interest rate mismatch JPMorgan will agree to pay floating to the Trust in exchange for a set fixed rate In order to act as an effective hedge for the Trust, the swap must have a balance guarantee feature The swap is initially executed based on the initial size of the asset pool and amortizes based upon the expected amortization speed of the underlying collateral
52
Agenda
1 12 18 26 53 65
Recent changes in CMBS loan characteristics

Loan pricing continues to tighten as a result of increased Wall Street lending needs, re-emergence of insurance companies looking to reinvest excess capital and the continued compression of bond spreads. Lenders have diversified loan terms and now offer 5-,7-,15- and 20-year terms, with interest-only periods extending out as far as 10 years or more. Lenders have relaxed reserve requirements and have also begun to allow more yield maintenance prepayment protection. Despite declining subordination levels, overall leverage has increased as traditional conduit loans are less frequently split into senior/junior components or into pari-passu participations. Participation by tax exchange investors (1031) and the use of tenant-in-common borrower structures will continue to increase as broker/dealers bring efficiency to this market.
U.S. conduit LTV trends U.S. conduit LTV trends
105% 10% 100% 9%
U.S. conduit loans with interest-only periods U.S. conduit loans with interest-only periods
100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 2001 2002 Full 2003 Partial 2004 Amortizing 2005 1H2006
95%
8%
90%
7%
85%
6%
80%
5%
75%
4%
2001Q1
2001Q2
2001Q3
2001Q4
2002Q1
2002Q2
2002Q3
2002Q4
2003Q1
2003Q2
2003Q3
2003Q4
2004Q1
2004Q2
2004Q3
2004Q4
2005Q1
2005Q2
2005Q3
2005Q4
2006Q1
Average Triple-B Subordination (RH Axis)
Moody's Avg. Stressed LTV (LH Axis)
Moody's Top-10 Loan LTV (LH Axis)
2006Q2
70%
3%
Source: JPMorgan, Moody's Investors Service
Source: JPMorgan, Trepp, rating agency presale reports
54
CMBS exhibit low aggregate delinquency rates

CMBS 30-Day and 60+ Day Delinquency Rates as of June 2006 CMBS 30-Day and 60+ Day Delinquency Rates as of June 2006
1.8% 1.6% 1.4% 1.2% 1.0% 0.8% 0.6% 0.4% 0.2% 0.09%
Percent 30-Days Delinquent Percent 60+ Days Delinquent
0.56%
0.0% Jun-98 Jun-99 Jun-00 Jun-01 Jun-02 Jun-03 Jun-04 Jun-05 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Jun-06
Source: JPMorgan, Trepp
55
CMBS also exhibit low delinquency and default rates by property type
60+ Day Delinquencies (excluding FC/REO) and FC/REO rates by Property Type as of June 2006 60+ Day Delinquencies (excluding FC/REO) and FC/REO rates by Property Type as of June 2006
4.5 4.0 3.5 3.0 Percentage 2.5 2.0 1.5 1.0 0.5 0.0 Jun-98 Jun-99 Jun-00 Jun-01 Jun-02 Jun-03 Jun-04 Jun-05 Jun-06 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 0.0 Jun-98 Jun-99 Jun-00 Jun-01 Jun-02 Jun-03 Jun-04 Jun-05 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-05 Jun-06 Jun-06 Percentage 1.0
Hotel Notice Scale!
1.5
Office
0.5
60+ Day Delinquencies (Excl. FC/REO)
Foreclosure & REO
Foreclosure & REO
Multi-Family
1.5
Retail
1.5
1.0
1.0 Percentage
Percentage 0.5
0.5
0.0 Jun-98 Jun-99 Jun-00 Jun-01 Jun-02 Jun-03 Jun-04 Jun-05 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Jun-06
0.0 Jun-98 Jun-99 Jun-00 Jun-01 Jun-02 Jun-03 Jun-04 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Jun-05
Foreclosure & REO
Foreclosure & REO
Source: JPMorgan, Trepp
56
CMBS exhibit excellent rating stability
CMBS W.A. Annual Rating Transition 1985 - 2005

Upgrade/ AAA AAA AA A BBB BB B CCC
AA 0.4 88.1 2.7 0.2 0 0 0
A 0 0.8 5.4 0.6 0.1 0.4 0
BBB BB 0 0.3 2 88 4.9 0.3 0.4 0 0 0 0.2 2.1 89.9 1.1 0
B 0 0.1 0 0.6 2.6 4.2 0
CCC CC 0 0 0 0.1 0.8 3.9 77.6 0 0 0 0 0 0 0.4 85.7
C 0 0 0 0 0 0 0
D 0 0 0 0.2 0.4 2.0 16.0 14.3
Stable (%) Downgrade (%) 99.6 98.9 97.7 97.1 95.9 94.1 83.7 85.7 0.4 1.1 2.3 2.9 4.1 5.9 16.3 14.3
99.6 10.8 3.2 1.0 0.3 0 0 0
6.6 87.9
0.1 0.2
3.2 90.5
CC
Source: Standard & Poors
57
especially against competing asset classes!
W.A. Annual Rating Transitions*

Upgrade/Stable Ratios (%)
CMBS AAA AA A BBB BB B CCC CC
ABS 99.3 95.4 94.3 93.2 82.6 55.8 65.9 60.3
Corporates 92.4 91.4 93.2 94.0 89.8 89.3 68.8 N/A
RMBS 99.9 98.8 99.1 98.5 97.5 96.0 54.9 78.3
99.6 98.9 97.7 97.1 95.9 94.1 83.7 85.7
* CMBS rating transitions measured between 1985-2005 ABS rating transitions measured between 1982-2005 Corporate rating transitions measured between 1982-2005 RMBS rating transitions measured between 1978-2005
Source: Standard & Poors
58
10yr triple-A spread movement

10yr triple-A CMBS basis Spread to swaps (bp) 10yr triple-A CMBS basis Spread to swaps (bp)
96 86 76 66 56 46 36 26 16 1/98
7/98
1/99
7/99
1/00
7/00
1/01
7/01
1/02
7/02
1/03
7/03
1/04
7/04
1/05
7/05
1/06
Source: JPMorgan
Triple-A CMBS spreads have come back in from its recent wides in December 2005 as investors found that CMBS offered attractive spreads versus other sectors. Good performance in CMBS as well as less fixed-rate issuance in competing sectors, such as corporate bonds and ABS, should help maintain a strong technical backdrop for CMBS spreads.
59
Relative value trades: 10yr triple-A CMBS versus 10-year Agency debentures
10yr Triple-A CMBS basis 10yr Agencies Asset Swap Spread Spread Differential (bp) 10yr Triple-A CMBS basis 10yr Agencies Asset Swap Spread Spread Differential (bp)
55
50
45
40
35
30
25
20
15 1/02
4/02
7/02
10/02
1/03
4/03
7/03
10/03
1/04
4/04
7/04
10/04
1/05
4/05
7/05
10/05
1/06
4/06
Trading near the largest spread differential since 2002.
60
Relative value trades: Triple-A CMBS versus Single-A Corporate Bank paper
10yr Triple-A CMBS basis JULI US Banks A 7 - 10 Par Asset Swap Spread Differential (bp) 10yr Triple-A CMBS basis JULI US Banks A 7 - 10 Par Asset Swap Spread Differential (bp)
10
-10
-20
-30
-40
-50
-60 1/00
5/00
9/00
1/01
5/01
9/01
1/02
5/02
9/02
1/03
5/03
9/03
1/04
5/04
9/04
1/05
5/05
9/05
1/06
5/06
Source: JPMorgan
10yr triple-A CMBS are currently trading near parity with single-A rated bank paper.
61
Relative value trades: 10yr triple-A CMBS versus 30yr CC FNMA

10yr Triple-A CMBS basis 30yr CC FNMA LOAS Spread Differential (bp) 10yr Triple-A CMBS basis 30yr CC FNMA LOAS Spread Differential (bp)
60
50
40
30
20
10
1/01 4/01 7/01 10/01 1/02 4/02 7/02 10/02 1/03 4/03 7/03 10/03 1/04 4/04 7/04 10/04 1/05 4/05 7/05 10/05 1/06 4/06
Source: JPMorgan
10yr triple-A CMBS are currently trading near their widest spread differential to 30-yr current coupon FNMA paper.
62
Triple-A / triple-B CMBS credit curve has flattened dramatically this year
Triple-A CMBS basis Triple-B CMBS Spread Differential (bp) Triple-A CMBS basis Triple-B CMBS Spread Differential (bp)
115
105
95
85
75
65
55
45 1/00
5/00
9/00
1/01
5/01
9/01
1/02
5/02
9/02
1/03
5/03
9/03
1/04
5/04
9/04
1/05
5/05
9/05
1/06
5/06
Source: JPMorgan
Triple-B spreads have rallied dramatically in early 2006 due to demand by CDO issuers and the search for assets with spread/yield.
63
CMBS remains one of the best performing structured finance sectors

Real estate fundamentals are firm and improving Low delinquency and default rates Good relative value vs competing asset classes, including A-rated bank-name corporate bonds (both cash and CDX) 30-year residential mortgage pass-throughs 10-year Agency debentures 10-year Credit Card paper Good relative value within the CMBS capital structure, including Junior AAA vs. ultra-senior AAA and double-A Seasoned 5-year A/L AAA vs. new issue 5-year AAA PAC IO vs. 3-year current-pay AAA
Favorable technical support

Less 10-year fixed-rate issuance in competing sectors CDO issuer and money-manager bid for triple-B spreads Investors still looking to allocate money to commercial real estate
Strong spread & ratings stability
64
Agenda
1 12 18 26 53 65
Examples of CMBS derivative structures

Total Return Swaps (TRS) Commercial real estate CDOs Synthetic, collateralized wholly by a basket of single-name CDS Hybrid, collateralized by both CMBS cash bonds and singlename CDS Credit default swaps (CDS) CMBX.NA index
66
What is a CMBS Index Total Return Swap (TRS)?

The CMBS Index TRS is a derivative contract governed by ISDA documentation in which one party (the receiver) receives total returns or excess return on a CMBS index from a second party (the payer) in return for a financing cost. TRS Payers (short CMBS) are either: 1.) dealers who seek to hedge their large loan pipelines and/or bond portfolios or 2.) investors looking to profit from widening spreads. TRS Receivers (long CMBS) are investors seeking to gain CMBS exposure to a broad, well-diversified, highly-rated portfolio and also take advantage of financing and leverage terms, which are usually attractive relative to terms available for cash bonds.
There are two types of TRS: Traditional TRS (or TRS with duration): Receiver receives the total return of the index and hence is exposed to both spread and interest rate risk. Duration-neutral TRS: Version of TRS which removes interest rate risk and isolates spread risk (most common form today).
67
Traditional TRS periodic cash flow diagram*

Total Return on CMBS Index Index Return * Notional TRS Payer (short CMBS) TRS Receiver (long CMBS) Pay fixed Swap Receive 3mL flat Counterparty
Financing Cost (LIBOR - spread) * N/360 * Notional
TRS Payer pays total return on CMBS Index, if return is positive. Return is composed of: 1.) Return due to price changes in underlying bonds over the holding period; 2.) return from reinvested interest and 3.) gain or loss from the return of principal (at par) on bonds that were priced at a discount or premium.
TRS Receiver pays financing cost. In addition, if return is negative, Receiver must pay the Payer the absolute value of the return amount. TRS Receiver is exposed to interest rate risk embedded in an indexs total return and can choose to hedge that risk with an interest rate swap. TRS Receiver will pledge collateral equal to 1 to 5% of the notional amount of the trade depending on counterparty credit.
* The direction of the total return flows in the diagram reflects the assumption of a positive return on the index. If negative, the direction would be reversed.
68
Duration-neutral TRS periodic cash flow diagram

Index spread return amount Notional amount * [Index spread + Funding advantage (or - funding disadvantage)] * N/360 TRS Payer (short CMBS) TRS Receiver (long CMBS)
Spread change amount Notional amount *(Spread0 Spread1) * index duration
Duration-neutral TRS focuses exclusively on the change in spread of a given index. Price changes in the index due to prepayments, defaults or interest rate movements no longer, or minimally, affect either party. TRS Payer pays the excess return of a given index, if return is positive. Netted with funding advantage
TRS Receiver pays funding advantage. In addition, if return is negative, Receiver must pay the Payer the absolute value of the spread return amount. Similar to the traditional TRS, Receiver will pledge collateral equal to 1% to 5% of the notional amount. Unlike traditional TRS, an interest rate swap is unnecessary.
69
What indices are used for the Index TRS?

Typically 8.5+yr AAA Index published by Lehman Brothers
8.5+yr AAA Lehman Brothers Index Stats as of June 30th, 2006
Number Issues 232 Mod. Adj. Duration 7.01 Avg Coupon 5.21 Avg Life 9.12 Avg Price 95.36 Average Yield 5.96 Nominal Spread 24.3 Market Value ($mn) 80,157 % 0f Index 21.46% % of Main 16.44%
Also, 10yr AAA Index published by Bank of America

10yr AAA Bank of America Index Stats as of June 30th, 2006
Number Issues 88
Mod. Adj. Duration 6.87
Avg Coupon N/A
Avg Life 8.90
Avg Price 94.99
Average Yield 5.94
Nominal Spread 22.95
Index Level N/A
% of Index N/A
% of Main N/A
Other indices- Broad indices (e.g., Lehman ERISA, Lehman Investment-grade), BBB Index, Long investment-grade indices.
70
What are commercial real estate CDOs (CRE CDOs)?

A CDO is comparable to a finance company. Borrows money (liabilities) Invests in collateral (assets) Has residual value (equity) The equity of a CDO represents an ownership stake in an entity and first loss position. The assets are typically managed by a seasoned asset manager with a strong track record in the respective CDO asset class. Repayment of liabilities relies on the performance of the underlying collateral pool and asset manager.
Credit enhancement and tranching create different rating levels, allowing involvement of a wide investor base.
71
CDO motivations: Balance sheet

Balance Sheet CDOs
Objectives Redistribute credit risk off balance sheet Reduce regulatory and economic capital requirements (improve ROE) Reduce balance sheet to improve ROA or free risk capacity for future business Exit certain lines of business and have them run-off Assets Investment Grade or HY bonds/loans Revolving credit facilities ABS, RMBS, CMBS and other Structured Products Issuers
Predominantly Commercial Banks, Insurance Companies Corporate Issuers, Hedge Funds Structures Almost exclusively Cash Flow in the late 1990s Often static pools (not actively managed; assets are administered and run-off) Portfolio is usually close to 100% ramped at closing In recent years, synthetic transactions allow for more efficient execution
72
CDO motivations: Arbitrage

Arbitrage CDOs
Objectives Capture market arbitrage by issuing liabilities at low costs of funding and invest in higher yielding assets on a levered basis Asset managers sell their expertise in managing specific asset classes and allow other investors to broaden their credit exposures Increase assets under management and grow franchise Receive fee income Assets HY bonds and leveraged loans Investment Grade bonds/Credit Default Swaps
ABS/CMBS/CDOs/Whole Loans and other Structured Products Issuers Asset Managers including money managers, hedge funds, banks and insurance companies Credit Structures Portfolio actively managed (invested/monitored/traded) Cash, synthetic or hybrid format Portfolio often not fully acquired at closing
73
CDO issuance format: Cash collateral

Cash Flow
Cash CDOs involve outright purchases (true sale) of assets and funded issuance of notes Liabilities comprises Senior and Mezzanine debt, supported by the Equity (First Loss) tranche In a Cash CDO, cash raised = cash used
Hedge Counterparties
Class A Notes
Class B Notes Asset Portfolio Cash CDO SPV Class C Notes
Trustee & Custodian
Equity/First Loss
74
CDO issuance format: Synthetic collateral

Synthetic
Synthetic CDOs, or Collateralized Swap Obligations (CSOs), gain credit exposure by entering into credit default swaps referencing specific names Issued as static portfolios or managed transactions Synthetic CDO collateral tends to be investment grade (BBB or better) High quality Synthetic CDO collateral allows for a very large, unfunded portion of synthetic CDO liabilities (the Super Senior Swap), which cheapens overall liabilities Super senior tranches credit quality is assumed to be better the AAA-rating level
Portfolio Tranched risk credit default swaps Super Senior Cheaper Liabilities
Investment-grade credit default swaps BBB A AA AAA
Synthetic CDO Issuer
Typically Unfunded Swap Funded Notes or Unfunded Swaps
Senior Mezzanine Equity
75
CDO issuance format: Cash vs. synthetic

Synthetic Synthetic CDOs have increased as a percentage of all CMBS CDOs, especially after the standardization of ISDA documentation in June, 2005. ($millions)
14,000 12,000 10,000 8,000 6,000
Cash
Synthetic
4,000 2,000 0 2001

*As of year-to-date March 2006 Source: JPMorgan
2002
2003
2004
2005
2006YTD*
76
What is a credit default swap (CDS)?

An agreement between two counterparties in which one party wishes to gain exposure to a particular reference asset (i.e., the protection seller), while the other party wishes to eliminate exposure to the same asset (i.e., the protection buyer). The most common reasons for CDS include To hedge, or reduce the risk of owning a particular cash bond, in the event one does not want, or is unable, to sell it To gain credit exposure to a particular asset in an unfunded format, which allows for more efficient deployment of capital To express either a positive or negative credit opinion on a particular asset that
May be executed separately from other exposures to the same asset or Can not be easily attained in the cash market.
77
Notional CDS outstanding (Corporate, ABS, CMBS & RMBS)

CDS volume has grown dramatically over the past several years
Cumulative notional outstanding volume ($bn) 17,278
12,430
8,422 5,442
632 1H2001
919 2H2001
1,563
2,192
2,688
3,779
1H2002
2H2002
1H2003
2H2003
1H2004
2H2004
1H2005
2H2005
Source: JPMorgan
78
Who are the CMBS CDS participants?

Protection sellers/risk buyers Hedge funds Proprietary trading desks Money Managers Loan originators
Protection buyers/risk sellers
Whole loan desks Insurance Cos SF CDO Issuers

79
Basic CDS trade mechanics

Contingent floatingrate payment Fee/Premium Fixedrate payment
Protection Seller
Long risk Sell CDS/Protection Receive fixed periodic payments Economically similar to owning a cash bond
Protection Buyer
Short risk Buy CDS/Protection Pay fixed periodic payments Economically similar to shorting a cash bond
Protection Buyer: The counterparty that wants to eliminate, or reduce, credit risk.
The buyer pays a fixed periodic premium, which is quoted in basis points as a percentage of the notional amount of the trade. The premium amount is directly related to the riskiness (either perceived or real) of the reference asset: the riskier the reference asset, the greater the premium required. Protection Seller: The counterparty that wants to gain exposure to the reference asset. Collects periodic fixed payment from the protection buyer, but is obligated to pay the protection buyer in the instance a credit event occurs (e.g., write-down, interest shortfall or failure to pay principal).
80
Settlement mechanisms vary
Physical settlement
Protection Seller
Deliver bond $100 (Par) $100 (Par) Recovery rate
Protection Buyer
Cash settlement
Source: JPMorgan
Protection Seller
Protection Buyer
Physical Settlement: deliver bonds Limited cash bonds Possibility of short squeeze
Cash Settlement: solicit dealer bids Selection bias Liquidity constraints
81
Pay-As-You-Go (PAYG or PAUG) Settlement

The settlement method of choice for structured finance CDS Eliminates many inefficiencies that may be introduced through either cash or physical settlement Given a credit event, two events follow under PAYG The protection seller pays the buyer a floating payment equal to the amount of the write-down, principal shortfall or interest shortfall
Example
$10 million notional, annual premium of 135bp
Payment prior to a credit event Protection Seller

No Payment
Fixed payment
Protection Buyer
($10mn notional)*(1.35%)=$135,000
Payment following a $3mn credit event

$3mn floating payment
In the event of a write-down, the notional amount of the trade is written down by the amount of the floating payment
Protection Seller
Protection Buyer
Fixed payment ($10-$3mn notional)*(1.35%)=$94,500

Source: JPMorgan
82
PAYG reimbursement given a credit event reversal

Payment following a $3mn credit event
Protection Seller
$3mn floating payment
Protection Buyer
Fixed payment ($10-$3mn notional)*(1.35%)=$94,500

Source: JPMorgan
Payment following a reversal of the prior $3mn credit event

No payment
Protection Seller
$3mn reimbursal payment Fixed premium payment ($10-$3mn notional)*(1.35%)=$94,500
Protection Buyer
Source: JPMorgan
83
Interest shortfall nuances: Fixed-cap versus uncapped

Fixed-cap Limits interest shortfall payment to the fixed-rate premium paid by protection buyer. Shortfall that exceeds the fixed-rate premium is not covered by the protection seller.
Uncapped Mandates full reimbursement for the entire coupon that suffers a shortfall.
Not limited to the fixed-rate premium paid by buyer. Protection seller may be required to pay the amount equal to (Shortfall-Premium) out of own pocket.
84
Recap: PAYG credit events & resulting cash settlement

Credit Event Interest shortfall Cash settlement The CDS premium is reduced by the shortfall. Protection seller Fixed-cap: receive max(Prem-SF,0) Uncapped: receive max(Prem-SF,0) If SF> Prem, pays SF-Prem
Failure to pay principal
Percent of class not paid at termination date of CDS times notional balance
Principal Writedown
Percent of class written down times notional balance
85
Valuing CDS: Mark-to-Market

Measures the change in value of a CDS position from trade date to the current date important when determining upfront payment for novation trades. Based on the PV01, or the Present Value of a bp. PV01 is the contracts sensitivity to a 1bp spread change. Mark-to-market value = (St-S0)*PV01. Reference obligations with longer durations have higher PV01s than do reference obligations with shorter durations and are more sensitive to spread movements.
86
2006 non-structured CMBS (non CLN) CDS trading activity

Vintage views have been narrowly focused BBB- received the most interest
2005 47%
2003 8% 2004 45%
BB A 1% 13% BBB 19%
BBB67%
Source: JPMorgan
Source: JPMorgan
CDS spreads have tightened, indicating more protection sellers than protection buyers
Rating level A BBB BBBSource: JPMorgan
YE2005 45bp 100bp 185bp
1Q2006 28bp 70bp 120bp
6/30/06 32bp 76bp 118bp
87
Valuing CDS: Carry and break-even spread movements

Carry is the annualized contract premium times the notional trade amount = {Premium (in bp)} * Trade Notional Amt * Act/360. Selling protection is a positive carry trade, buying protection is a negative carry trade. Protection buyers need to consider the amount of spread widening needed to break even ={Offer Spread * Trade Horizon (in yrs)} / (Horizon Duration) + Bid/Offer Spread.
Spread widening required to break even (bp)
70 50
Break even for BBB
Break even for BBB-
30 10 3-Month
Source: JPMorgan
6-Month
9-Month
1.00 Year 1.25 Years 1.50 Years 1.75 Years 2.00 Years
88
CMBX.NA launched on March 7, 2006

Summary of CMBX.NA Terms
Traded Indices (rolled every 6 months) CMBX.NA.AAA CMBX.NA.AA CMBX.NA.A CMBX.NA.BBB CMBX.NA.BBBEach index is an equally-weighted composite of the corresponding tranche of the same rating from 25 newly issued CMBS transactions ISDA, Pay-As-You-Go (PAYG) October 25, April 25 (or next business day, respectively) Legal final maturity of reference obligation Each reference obligation must have a current factor of 1.0 Established on the roll date Interest shortfall, principal shortfall, writedown Reimbursements of interest shortfall, principal shortfall, writedown Spread Writedown, interest shortfall, principal shortfall Cash settlement
Reference Obligations Structure Roll Dates Scheduled Termination Date Notional

Fixed Rate Payments Floating Rate Payments Additional Fixed Payments Quotations Credit Event Settlement
Source: JPMorgan, Markit
89
Rules for inclusion for CMBX

Since CMBX was designed to replicate an investment in a diversified basket of newly issued CMBS at a given rating level, standardized rules for inclusion were carefully drafted to maximize the transparency of the indexs components, which should enhance trading liquidity.
Deal-level criteria: All bonds must be US dollar denominated, fixed-rate securities. The transaction must be rated by at least any two of Fitch, Moodys or S&P. The deals aggregate balance must be greater than $700mn. The deal must include securities with tranches rated AAA/Aaa, AA/Aa2, A/A2, BBB/Baa2 and BBB-/Baa3. In instances where there are more than one triple-A class with equal credit enhancement, the tranche with the longest weighted average life will be included. In instances where a tranche is split-rated, the lower of the ratings will be used.
The securities must be collateralized by at least 50 separate mortgages that are obligations of at least 10 borrowers who are unaffiliated with each other or with the issuer of the CMBS transaction. The maximum concentration of any single property-type can not exceed 60% by dollar value. The maximum concentration in any single state must not exceed 40% by dollar value.
90
Rules for inclusion for CMBX

Tranche-level criteria: The identity and principal economic terms must be listed on Bloomberg For the triple-A sub-index the aggregate principal amount of the tranche must be greater than $100mn For the CMBX.NA.AAA index, each reference obligation must have an expected weighted average life of greater than eight years and less than 12 years from the date of issuance using a 0% CPY scenario Furthermore, the expected weighted average life can not decrease by more than one year when calculated using a 100% CPP scenario and by more than two years when calculated using a 100% CPY scenario
91
CMBX.NA reference obligation tranches

Reference Obligation Entity Name 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 BACM 2005-4 BACM 2005-5 BACM 2005-6 BSCMS 2005-PWR10 BSCMS 2005-PWR9 BSCMS 2005-TOP20 CD 2005-CD1 CSFB 2005-C5 CSFB 2005-C6 GCCFC 2005-GG5 GECMC 2005-C4 GMACC 2006-C1 JPMCC 2005-CIBC13 JPMCC 2005-LDP4 JPMCC 2005-LDP5 LBUBS 2005-C5 LBUBS 2005-C7 LBUBS 2006-C1 MLMT 2005-CKI1 MLMT 2005-LC1 MSC 2005-HQ7 MSC 2005-IQ10 MSC 2006-TOP21 WBCMT 2005-C21 WBCMT 2005-C22 CMBX.NA.AAA.1 CMBX.NA.AA.1 CMBX.NA.A.1 CMBX.NA.BBB.1 CMBX.NA.BBB-.1 A-5A A-4 A-4 A-4 A-4A A-4A A-4 A-4 A-4 A-5A A-4 A-4 A-4 A-4 A-4 A-4 A-4 A-4 A-6 A-4 A-4 A-4A A-4 A-4 A-4 B B C C C C C C B B C B B B C C C C B B C B B B C D D F F E E E F E D E E D D F F F F D D F D D D E G G J J H H H J H G H H G G J J J J G G J G G G H H H K K J J J K J H J J H H K K K K H H K H H H J
20 21 22 23 24 25
Source: Markit
92
CMBX.NA reference obligation statistics*

Pricing Date Deal Name Deal Size ($mn) $1,586 $1,962 $2,942 $2,634 $2,152 $2,073 $3,903 $2,937 $2,505 $4,295 $2,398 $1,730 $2,721 $2,677 $4,322 $2,344 $2,347 $2,476 $3,074 $1,546 $1,957 $1,547 $1,376 $3,250 $2,534 $2,532 Loan/ Property Count 128/149 106/120 163/919 212/232 200/229 221/285 225/261 281/337 229/241 173/267 167/225 121/216 236/281 186/244 195/313 117/215 143/227 145/273 169/299 142/176 279/328 210/220 121/177 233/329 151/238 182/272 % Inv. Grade Loans 1.1% 7.9% 23.8% 9.2% 1.4% 28.9% 23.1% 17.2% 6.2% 2.7% 5.1% 12.4% 0.0% 5.0% 11.1% 34.4% 36.3% 33.5% 9.9% 8.1% 0.0% 11.6% 36.8% 5.2% 3.7% 13.4% IO% %TIC Full Borrower Term 6.4% 7.6% 7.2% 4.4% 4.4% 4.5% 12.2% 13.2% 8.8% 6.0% 9.3% 6.7% 9.7% 7.2% 4.6% 9.9% 6.9% 3.7% 8.6% 6.9% 15.4% 8.7% 7.0% 11.7% 14.4% 8.2% Partial Term Rating Agency LTV Loan Size ($mn) Loan Concentrations Property Type Mix MultiTop 3 Top 5 Top 10 Office Retail family Hotel 20.7% 31.7% 16.2% 25.9% 19.6% 28.2% 23.6% 31.4% 14.8% 19.7% 16.4% 24.4% 17.8% 23.2% 18.0% 23.1% 19.0% 25.0% 20.7% 30.0% 13.3% 20.8% 17.4% 27.2% 16.7% 21.8% 21.7% 27.7% 20.7% 29.4% 33.0% 43.9% 27.0% 36.9% 28.2% 38.1% 18.5% 26.0% 19.9% 26.5% 14.6% 19.3% 23.4% 31.4% 25.2% 37.3% 17.6% 25.8% 18.3% 27.9% 20.1% 28.1% 46.2% 42.6% 43.3% 40.2% 29.9% 36.0% 32.8% 33.3% 34.0% 41.4% 34.5% 43.4% 31.6% 38.5% 45.0% 57.1% 53.5% 57.1% 39.7% 37.5% 26.5% 46.6% 52.9% 39.6% 39.2% 40.9% 34.2% 26.0% 23.3% 7.6% 40.8% 27.0% 18.5% 4.4%
Total
Fitch N/A N/A N/A N/A N/A N/A N/A
S&P
Moody's Max N/A 92.5% N/A 97.4% 86.5% 98.5% N/A
Min
Avg. $12.4 $18.5 $16.8 $12.4 $10.8 $9.4 $17.3 $10.5 $10.9 $24.8 $14.4 $14.2 $11.5 $14.4 $21.5 $20.0 $16.4 $16.9 $18.2 $10.9 $7.0 $7.3 $11.4 $13.9 $16.8 $14.3
Ind. 5.1% 3.3%
Other 3.8% 6.0% 9.3% 9.9% 3.5% 9.3% 5.2% 8.5% 3.0% 1.1% 9.8% 4.6% 0.9% 1.9% 2.7% 4.4% 3.6% 3.0% 8.9% 4.9% 9.4% 8.7% 2.0% 9.2% 14.5% 5.9%
09/15/2005 BACM 2005-4 09/30/2005 BACM 2005-5 12/16/2005 BACM 2005-6 12/09/2005 BSCMS 2005-PWR10 09/14/2005 BSCMS 2005-PWR9 10/20/2005 BSCMS 2005-TOP20 10/27/2005 CD 2005-CD1 10/26/2005 CSFB 2005-C5 12/14/2005 CSFB 2005-C6 10/20/2005 GCCFC 2005-GG5 12/02/2005 GECMC 2005-C4 01/25/2006 GMACC 2006-C1 11/18/2005 JPMCC 2005-CIBC13 09/22/2005 JPMCC 2005-LDP4 12/16/2005 JPMCC 2005-LDP5 08/15/2005 LBUBS 2005-C5 10/25/2005 LBUBS 2005-C7 01/20/2006 LBUBS 2006-C1 12/01/2005 MLMT 2005-CKI1
30.1% 42.8% 72.9% 100.8% 102.1% 29.2% 44.4% 73.6% 23.8% 37.8% 61.6% 14.0% 41.9% 55.9% 24.7% 43.5% 68.2% 17.8% 47.5% 65.3% 30.5% 48.4% 78.9% 16.2% 43.8% 60.0% 90.6% 98.0% 98.4% N/A 99.1% 93.5% 97.7%
$110.0 $1.0 $260.0 $1.0 $275.7 $1.0 $137.5 $1.0 $121.1 $0.5 $290.0 $1.3 $310.0 $0.5
104.9% 102.1% $116.0 $1.2
38.6% 15.6% 23.6% 11.4% 1.5% 14.5% 42.5% 18.8% 10.1% 4.2% 15.8% 45.9% 22.0% 8.6% 26.4% 38.0% 40.1% 29.8% 14.9% 6.6% 26.0% 30.6% 25.3% 8.6% 29.0% 29.9% 29.1% 5.8% 33.0% 35.3% 29.8% 35.8% 14.1% 8.2% 29.9% 26.1% 29.2% 7.8% 36.1% 27.3% 22.2% 7.8% 44.7% 25.5% 20.8% 2.1% 4.2% 3.5% 1.2% 3.3% 2.3% 2.4% 5.7% 4.1% 8.8% 10.1% 7.6%
19.6% 45.9% 65.5% 95.2% 33.5% 22.0% 55.5% 83.1% 10.3% 60.1% 70.4% 93.9%
102.3% $175.0 $0.9
106.0% 104.3% $320.0 $1.5 105.9% 105.5% $122.0 $1.9 N/A $106.3 $1.0 N/A N/A 98.1% 91.8% 91.0% 97.9% 98.8% 99.9% 95.2% 83.8% 102.0% $180.9 $0.9 100.5% $349.7 $1.1 97.1% N/A N/A N/A 98.4% $335.0 $0.9 $285.1 $1.1 $285.1 $1.3 $420.8 $1.1 $255.0 $0.3
6.4% 15.4% 8.8%
26.5% 50.0% 76.5% 96.8% 101.6% 24.4% 41.2% 65.6% 102.4% 29.0% 39.7% 68.7% 100.8% 34.3% 40.9% 75.2% 95.1% 37.3% 33.8% 71.1% 89.4% 40.5% 31.8% 72.3% 90.0% 41.6% 30.1% 71.7% 90.1% 19.6% 42.5% 62.1% 3.8% 65.7% 69.5% 16.3% 31.9% 48.2% 24.1% 35.2% 59.3% 36.6% 28.2% 64.8% N/A N/A N/A N/A N/A
29.6% 35.4% 18.6% 3.3% 11.1% 37.3% 34.9% 10.5% 11.6% 1.3% 50.1% 23.0% 12.2% 10.0% 1.2% 38.6% 26.9% 24.3% 43.4% 7.4% 21.4% 2.7% 8.4% 10.0% 5.0% 2.9% 2.1% 2.6% 3.8%
12/16/2005 MLMT 2005-LC1 11/17/2005 MSC 2005-HQ7 10/12/2005 MSC 2005-IQ10 01/20/2006 MSC 2006-TOP21 10/14/2005 WBCMT 2005-C21 12/15/2005 WBCMT 2005-C22 Average
100.8% $125.7 $1.0 93.1% 83.1% $196.0 $0.8 $137.0 $0.7
24.5% 33.2% 27.2% 7.3% 34.2% 23.8% 23.7% 7.4% 25.1% 49.2% 45.2% 15.7% 20.4% 6.9% 32.2% 31.0% 18.0% 9.1%
104.2% 103.2% $141.0 $0.3
30.6% 31.9% 13.6% 10.5% 4.1% 8.1% 13.1% 2.5%
31.9% 48.3% 80.2% 100.7% 103.7% 101.1% $200.0 $0.6 21.6% 56.1% 77.7% 101.0% 104.1% 101.7% $162.5 $1.4 25.5% 42.1% 67.6% 95.3% 98.5% 98.3% $216.7 $1.0
25.5% 22.3% 23.2% 11.2% 3.3%
* The statistics are based on rating agency presale reports so they may not reflect the precise composition at the launch of the indices. Source: JPMorgan, Rating Agency Presale Reports
93
The CMBX: Some important facts

Represents a standardized basket of CMBS CDS that references a basket of newly issued CMBS reference obligations. Rolled every six months and includes bonds from most recently issued deals, which mitigates the potential for reference obligations to exhibit credit-specific nuances. Third parties, and no single dealer, are responsible for administering and marking the Index, while 14 dealers contribute prices.
94
The CMBX: Activity to date

Since its launch, activity in the CMBX.NA.AAA sub-index has dwarfed that of the other sub-indices by a ratio of approximately 10:1. The majority of the activity, though, has been inter-dealer. Only a few retail accounts have participated.
95
The CMBX: Performance to date

Spreads have tightened and the credit curve has flattened.
Spreads have tightened across the credit curve
At Roll Date Fixed coupon (strike) Closing Spread June 30th, 2006 Spread Change Versus fixed coupon Sub index Day Week Month
The CMBX credit curve has flattened

160 140 120 100
CMBX.NA.AAA
10.00
7.50
-0.09
0.00
0.50
-2.50
CMBX.NA.AA
25.00
18.58
-0.04
-0.09
0.72
-6.42
80 60
CMBX.NA.A
35.00
30.12
-0.12
0.54
1.95
-4.88
40 20
CMBX.NA.BBB
76.00
71.67
-0.95
-1.33
5.03
-4.33
0 AAA
AA 06/30/2006
A 06/23/2006
BBB
BBB-
CMBX.NA.BBB-
134.00
115.00
-0.19
-0.92
1.71
-19.00
At Roll Date
Source: Markit
96
The CMBX & single-name CDS: Potential applications

May be used by cross-sector investors that want broad-based exposure at a given rating level and do not have the expertise or resources to allocate to bond-specific due diligence.
Trade Date 06/30/2006 Clean Price Dirty Price Accrued Interest PV01 Clean PV/MTM Dirty PV/MTM
CMBX.NA.AAA CMBX.NA.AA CMBX.NA.A CMBX.NA.BBB CMBX.NA.BBB7.5900 18.6200 30.2400 72.6200 115.1900 100.17% 100.18% $13.89 ($715.12) $1,739.88 $1,753.77 100.47% 100.47% $34.72 ($730.53) $4,687.48 $4,722.21 100.35% 100.36% $48.61 ($726.52) $3,502.77 $3,551.38 100.24% 100.25% $105.56 ($729.91) $2,411.23 $2,516.78 101.39% 101.41% $186.11 ($748.30) $13,914.72 $14,100.83
Annualized spread widening break even

1.06 bp
2.55 bp
4.16 bp
9.95 bp
15.39 bp
97

Basis trades, which are trading strategies based on the spread differential between a cash bond and a single-name CDS contract.
CDS cheaper vs. cash CDS richer vs. cash
Sell cash bond, sell protection

190 180 170 160 150 140
Buy cash bond, buy protection

0
170 160 (5)
Cash BBB- (LH Axis) CDS BBB- (LH Axis) Basis (RH Axis)
(5)
150
(10)
(10)
140 130 120
(15)
(15)
(20) Cash BBB- (LH Axis)
130 120 110 (25) 100 02/16/2006 02/21/2006 02/26/2006 03/03/2006 03/08/2006
Source: JPMorgan
(20)
110 100 03/08/2006
CDS BBB- (LH Axis) Basis (RH Axis) 03/13/2006 03/18/2006
(25)
(30) 03/23/2006
Source: JPMorgan
98

Synthetic cross-sector or capital structure arbitrage, in which an investor simultaneously buys (or sells) an index in one sector (e.g., the CDX, ABX or CMBX) and sells (or buys) an index in the same or in a different sector against it. In the example below, the CMBX.NA.AA has tightened more than any other CMBX sub-index on a percentage basis. One possible trade would be to sell a credit butterfly by buying CMBX.NA.AAA and CMBX.NA.A and selling the CMBX.NA.AA.
Spread Change (bp) Fixed Closing Versus Coupon Spread Fixed Sub Index (Strike) 03/24/2006 Day Week Month Coupon CMBX.NA.AAA 10.00 7.50 -0.06 -0.91 N/A -2.50 CMBX.NA.AA 25.00 17.29 -0.21 -1.46 N/A -7.71 CMBX.NA.A 35.00 27.64 0.02 -1.17 N/A -7.36 CMBX.NA.BBB 76.00 60.93 -0.88 -0.95 N/A -15.07 CMBX.NA.BBB- 134.00 111.29 -1.03 -2.96 N/A -22.71
Percent Tightening Since Roll Date -25% -31% -21% -20% -17%
6-month Historical Cash Spread Volatility (bp) 1.37 2.12 2.45 10.00 13.00
99

Exploit pricing inefficiencies among trading vehicles, such as among the CMBX, single-name CDS, cash bonds or TRS. Example: Compare the difference between buying $50 million of the CMBX.NA.AAA at 10bp versus buying $50 million of AAA CMBS at S+26bp.
Step
1. 2. 3. Net
Pay (per annum)

L+3 $50mn -26bp
Receive (per annum)

$50mn 26bp L+12bp 9bp
Finance cash bond Buy cash bond Buy IR swap total:
In this example, an investor would pick up 1bp by buying the CMBX.NA.AAA at 10bp instead of buying cash CMBS AAAs at S+26bp.
100
Conclusion
The growth of the CMBS industry has broadened its investor base and has increased their sophistication. This has led to more efficient structures Ability to gain/shed risk speculatively Transfer economic exposure without selling cash asset Hedge an existing portfolio Create structures otherwise impossible if one was limited to cash bond assets Should ultimately lead to more efficient pricing
101
Analyst Certification The analyst(s) denoted by an AC certifies that: (1) all of the views expressed in this research accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the analysts compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the analyst(s) in this research. Important Disclosures * JPMSI or an affiliate has managed or co-managed an offering of securities within the past twelve months. ^ A senior employee, executive officer, or director of JPMSI and/or its affiliates is a director of the company. Explanation of Credit Research Ratings: Ratings System: JPMorgan uses the following sector/issuer portfolio weightings: Overweight (over the next three months, the recommended risk position is expected to outperform the relevant index, sector, or benchmark), Neutral (over the next three months, the recommended risk position is expected to perform in line with the relevant index, sector, or benchmark), and Underweight (over the next three months, the recommended risk position is expected to underperform the relevant index, sector, or benchmark) Valuation & Methodology: In JPMorgans credit research, we assign a rating to each issuer (Overweight, Underweight or Neutral) based on our credit view of the issuer and the relative value of its securities, taking into account the ratings assigned to the issuer by credit rating agencies and the market prices for the issuers securities. Our credit view of an issuer is based upon our opinion as to whether the issuer will be able service its debt obligations when they become due and payable. We assess this by analyzing, among other things, the issuers credit position using standard credit ratios such as cash flow to debt and fixed charge coverage (including and excluding capital investment). We also analyze the issuers ability to generate cash flow by reviewing standard operational measures for comparable companies in the sector, such as revenue and earnings growth rates, margins, and the composition of the issuers balance sheet relative to the operational leverage in its business. Analysts Compensation: The research analysts responsible for the preparation of this report receive compensation based upon various factors, including the quality and accuracy of research, client feedback, competitive factors and overall firm revenues. 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CMBS Overview

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JUNE 2006

Alan L. Todd, CFAAC

Yuriko Iwai, CFA

Government actions spurred development of the commercial real estate market

1986-1988: Saving & Loan failure

1981-1982: Back-to-back recessions

1986: Tax Reform Act of 1986

1989: FIRREA passed, set up RTC to dispose of bad commercial loans

Early 90s: RTC used CMBS market to dispose of nonperforming assets

Mid 90s-Present: Acceptance of REIT and CMBS securities flourished

What are Commercial Mortgage-Backed Securities?

FY2005 Deal Type Distribution FY2005 Deal Type Distribution

Multiborrower Floater, 11%

Types of CMBS transactions

Who invests in Commercial Mortgage-Backed Securities?

Hedge Fund, 10% Bank/ GSE, 24%

Insurance/ Pension Fund, 38%

Money Manager, 25%

Other, 4% Hedge Fund, 5%

Insurance/ Pension Fund, 38%

Bank/GSE, 41% Money Manager, 12%

Why do investors purchase commercial real estate assets?

Issuers utilize the CMBS market for a variety of reasons

securitize portfolios of seasoned loans

Wall Street firms and real estate opportunity funds

acquire and securitize portfolios of seasoned loans

Owners of large commercial properties and pools of smaller commercial properties

issue securities backed by mortgages on those properties

Basic securitization concepts:

Investors Investors Trust

Overview of loan origination and securitization process

CMBS Loan Origination

Assemble pool of mortgages from internal warehouse and partner contributions

Rating Agency Due Diligence & Subordination Levels

Private Placement of Subordinate Bond Tranches

Prospectus, Pooling & Servicing Documentation

CMBS Underwriting, Trading & Sales

Six general steps of the rating agency credit rating process

Role of loan servicer

Issuance volume has grown as the market matures

Source: Commercial Mortgage Alert

CMBS issuance by deal type

Conduit Multiborrower Floater Single Asset/Single Borrower Other

FY2006 Forecast 130,000

-5% 13,000 -30% 12,000 11% 3,000 2% -6% 32% 30%

U.S. Total International CRE CDO Agency

158,000 28,000 6,000

Commercial mortgage debt outstanding

Loan concentrations change in response to property type performance and expectations

Metropolitan Statistical Area (MSA) concentrations*

Some important terms Net Cash Flow

Some important terms Loan-to-Value / Debt Service Coverage ratios

Some important terms Default risk

Case I Actual 80% Leverage LTV (%)*

DSCR** 1.20x 0.96x

Some important terms Extension (Balloon) risk

0-6 Month Free Period

Hard Lockout Yield Maintenance