In our previous discussion on CMBS called CMBS balloon risk looming, we covered the refinancing risk for commercial mortgages. These mortgages form the collateral pools for CMBS bonds, creating significant risk that these securities will default on part or all of their principal. That risk however varies dramatically based on the seniority of CMBS tranches.

Here we refer to CMBS securities in terms of ratings, which represent the level of seniority (the actual ratings themselves are fairly meaningless for CMBS at this point). The chart below shows spreads (from Morgan Stanley) for the highest seniority tranche (super-senior AAA) and a junior tranche (BBB).