Crisis looms in commercial real estate

The wall street journal reported the delinquency rate on $700 billion in securitized loans backed by office buildings, hotels, stores and other investment property has more than doubled since September to 1.8% this month. It lower compared with the home-mortgage delinquency rate, but it is the highest rate in the last downturn early this decade.

Although some experts said the problems wouldn’t be as bad as the downturn, the article seemed more worried about financial market. It showed “a complete choking up, foreclosure disaster and increased stress on the banking system.” As the American consumer confidence dropped to 16 years low, we have the reason to believe the situation would be the same or even worse. And we can divide the effects of crisis into 4 parts. Size, refinancing, credit default and risk, I will explain followed by.

Size
Commercial real estate in U.S. is valued at $6.5 trillion and financed by about $3.1 trillion in debt, so it is potentially more dangerous to financial system than debt classes such as credit cards and student loans. And commercial real estate is unlike normal loans, once default, it will affect the supply of real economy.

Refinancing
Performing loans could face troubles because of a fall value of properties, making it hard for the owner to refinance when the loans come due. Of $154.5 billion of securitized commercial mortgages coming due from through 2012, about 2/3 likely won’t qualify for refinancing, and the commercial-property values of 35% to 45% from the peak in 2007. Even the famous business Donald Trump faced bankrupt in January, as the problem of refinancing. So I think when in the recession, government should do something to protect good companies, such as extend the term of loans.

Credit default
The bank estimates the default rates on the $700billion of commercial-mortgage-backed securities could hit at least 30% and loss rate, and the lender would loss over 10%. Foresight Analytics estimates the U.S. banking sector could suffer as much as $250 billion in commercial real estate losses in this downturn. In 1990s, more than 1000 banks bankrupt, hope this time will not be like that.

Risk
More than 2900 banks and saving institutions had more than 300% of their risk-based capital in commercial real-estate loans, including both commercial mortgages and construction loans. Since 2007, 49 banks and saving institutions have failed, and it is forcasted that 700 banks would fail as a result of their exposure to commercial real estate.