Potential losses to banks could reach $250 billion
Take your pick of descriptor terminology -- massive defaults, financial disaster, zombie offices. No, it’s not the latest big budget movie at the cineplex but terms that have been used to describe the CRE space that some say is slated to crater this year.
It’s a lot to take in. So Mortgage Professional America turned to Xander Snyder (pictured) – CRE economist at First American – for more thoughtful, measured commentary of what’s in store for the space as payments come due to banks. Surely it can’t be that bad.
It is: “I do expect default,” Snyder said. “I do expect distress. I think there’s a lot of debt coming due against office buildings.”
Could falling rates save the day?
And yet amid such a scenario, a glimmer of hope in the form of falling rates has only recently begun to emerge. “I think there will be more defaults,” the First American economist said. “I don’t know if ‘massive’ is the right word, and it will depend to a certain degree on what happens with rates. Because if rates come down, that will alleviate some of the refinancing pressure for some cash-strapped buildings.”
Still, it’s the office sector that will take the brunt of a volatile market. “Certainly, office is the most challenged asset class right now,” Snyder said. “Fundamentals for other asset classes are fairly different.”
He described the abundance of “fairly empty” office buildings dotting the landscape. “The best physical occupational data we have show they’re about half-occupied,” he said of the asset class. “I’ve read there is declining demand in Class B and C, and that’s being aggregated into Class A demand. That makes some sense as people are trading into the upper end of the market as demand for the lower end falls out.”
One such office building prototype set to figuratively implode: “Perhaps buildings that were underwritten with unrealistic, somewhat aggressive, assumptions that are now struggling. Loan defaults will also force some of those to market.”
Losses to banks could reach $250 billion
Further evidence pointing to such a scenario has been piling up.
According to a recent working paper from the National Bureau of Economic Research (NBER), banks this year stand to lose about $160 billion from commercial real estate – an amount that is about a quarter of the average lender’s total assets. Others foresee even greater losses: Hedge funder Kyle Bass told Markets Insider losses could reach as high as $250 billion.
According to that NBER paper, some 14% of all commercial real estate properties already find themselves in “negative equity” – a term denoting how the value of a building is less than the outstanding debt. All told, NBER reports, up to 20% of all commercial real estate could default.
There’s really no way to sugarcoat the tsunami of debt building up in the office sector, and rates may not fall in time to offer building owners a lifeboat, the First American economist said. “There’s a lot of debt coming due,” Snyder told MPA. “A lot of office owners to the extent they have the ability to just kind of hang out and wait and see for those rates to come down. They’ve been doing that, but that won’t be an option when the loan comes due and that’s essentially what’s going to force a lot of sales – not just in office, but other asset classes too.”
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