Respondents note the alarming consequence of high default rates
Concerns about a widespread credit crisis are intensifying among investment managers as signs of trouble emerge in real estate markets worldwide, a report said.
According to Bank of America Corp.’s latest Global Fund Manager survey, approximately one in six respondents now views this scenario as the most significant risk facing financial markets. This figure has risen from one in 11 in December. The unease is particularly pronounced in the US commercial real estate and Chinese property sectors, making it the third most significant concern among survey participants, trailing behind worries about rising inflation and geopolitical tensions.
Expectations that the Federal Reserve would mitigate real estate pressures by lowering interest rates were dashed by unexpectedly high inflation figures last week. Traders are now betting on less than a 90-basis point cut in rates for the year, nearly half of the anticipated reduction forecasted in January, according to a Bloomberg report. Additionally, over $900 billion of debt related to US commercial and multifamily real estate will require refinancing or property sales this year, marking a 40% increase from previous estimates. The report said this surge comes as banks extended loans and property values declined.
Smaller banks at higher risk
Bruce Richards, chairman of Marathon Asset Management, cautioned that smaller banks are headed towards default rates of 8% to 10% in their commercial real estate loan portfolios. These lenders, having increased their exposure in recent years, are especially susceptible to the downturn in commercial real estate. In contrast, larger banks are deemed to be highly resilient.
A 10% default rate on commercial real estate loans could lead to approximately $80 billion in additional bank losses, as outlined in a research paper on US bank fragility published in December. The paper also warns that CRE distress could leave more than 300 primarily smaller regional banks at risk of solvency runs.
“We will continue to see upticking levels of distress,” said Omar Eltorai, director of research at data provider Altus Group. “It’s one of those variables that people can call early but there’s a delay before it passes through.”
According to Bloomberg, the Federal Reserve is collaborating with lenders heavily exposed to commercial real estate to manage anticipated losses. Treasury Secretary Janet Yellen recently stated that while losses are concerning, US regulators are ensuring that loan-loss reserves and liquidity levels are sufficient to handle them.
Despite regulatory efforts, nearly 40% of fund managers identify US commercial real estate as the most probable source for a credit event, according to the BofA survey. An additional 22% perceive Chinese real estate as the most significant threat. The survey was conducted from Feb. 2 to 8, coinciding with New York Community Bancorp’s decision to reduce its dividend and bolster reserves due in part to weaknesses in office and multifamily markets.
The report notes the turmoil has extended to German lenders with exposure to US commercial real estate, evidenced by the further decline of Deutsche Pfandbriefbank AG’s bonds into distressed territory following a downgrade by S&P Global Ratings. The downgrade cited the bank’s significant exposure to the troubled market.
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