Commercial Real Estate Crash Anticipated

The commercial real estate market is in the tank and many banks are said to be unprepared for it. The numbers aren't good at all. The Fed and other experts are anticipating a crash that could be worse than anything we've seen in a long while in that area. And the broader implications for the economy are, obviously, not very good.

Some excerpts below, more here. And you thought it couldn't get much worse? I smell a bail-out in the making, already. And don't forget, a lot of Obama insiders are heavy into commercial real estate in Chicago. We can't expect them to take a loss, now can we?

Many investors are sitting around waiting for the big commercial real estate crash, and they won’t be disappointed. As any property owner will tell you now, it’s a scramble to keep and find tenants. Rents are declining, buildings are starting to empty, and there is very little financing available. Everyone knows the debt refi burden that won’t peak until 2013.

Commercial real-estate loans are the second-largest loan type after home mortgages. More than half of the $3.4 trillion in outstanding commercial real-estate debt is held by banks.

“There’s been an extend-and-pretend philosophy by banks to forestall hits to their balance sheets that might occur,” says Patrick Phillips, new chief executive of the Urban Land Institute, a real-estate industry group.

Matthew Anderson, a partner at research firm Foresight Analytics, adds: “It’s like taping paper over a hole in the wall.”

Last month’s Fed presentation supports criticisms that banks have been slow to take losses on bad commercial real-estate loans. The value of commercial real-estate loans as recorded by banks has declined at a much slower rate than property values since 2005. But banks have been slow to absorb losses on their loans partly due to “capital preservation” concerns, the report states.

Comments

[PD Quig]

They can engineer a CRE bailout, but eventually the piper will be paid. Paraphrasing Tim Knight, when the dot.Gov bubble bursts it's going to make the dot.com and housing bubbles look like small time.

[Shannon Love]

As an aside, it is instructive as to the cause of the crash last year to note that although the residential real estate and commercial real estate markets are joined at the hip economically and use most of the same lenders, only the residential market saw the explosive boom and consequent bust while the commercial market merely followed behind. The only major difference between the two markets is that the government intervened in 60%-70% of residential mortgages to encourage more lending at higher risk. The commercial real estate market by contrast operated almost entirely free of any government intervention.

The fact that the commercial real estate market is only starting to falter now more than a year and a half after the residential market took down the entire economy proves rather conclusively that it was the accumulation of 30 years of government pressure and incentives to make ever increasingly risky loans in the residential market. If the "greed" of the free-market was to blame, we should expect to see the opposite pattern i.e. the unregulated market without government intervention and incentives should have boomed larger and crashed first. It didn't, so free-market mechanisms and actors are not to blame.

Not that people who reflexively blame the free market will admit this.

[Trouble]

Judging from CRE overcapacity (much of this being yet under construction), and the number of idiots who have been bragging about the money they've made flipping buildings over the last several years, this is inevitable.

Making money on property flips is like winning big at blackjack - once someone makes a big score, common sense goes out the window. I know at least a half dozen people who were real-estate high-rollers one year, and living in Mom's basement the next.

[Brian Gulino]

Forgive me if this question is naive, but I keep reading about a commercial real estate crash and I never hear this asked.

Isn't the answer to a commercial real estate crash lower commercial rents? Aren't lower commercial rents good for all kinds of businesses?

A commercial real estate crash is bad for landlords and banks. Isn't it good for everybody else?

[John Stater]

Lower commercial rents are happening, and increasing some demand for product. Unfortunately, many of the property owners owe money on these properties that has to be repaid. As rents go down, paying their debts becomes harder and harder. For many, there comes a time when they simply cannot pay and then the property goes into foreclosure. I do real estate research in Las Vegas, where we currently have over 5,000,000 square feet of commercial real estate that is distressed or in default.

I can also comment that the major boom did also occur in commercial real estate, at least in Las Vegas. Demand for space skyrocketed in 2005, leading to major increases in development in 2006, just as demand began to fall. This overbuilding, caused by easy money from the banks and an attitude of "if you build it, they will come", has exacerbated the problems the LV commercial real estate market would have already faced from the recession.

The commercial foreclosure tsunami is hitting now and will probably get worse. Ultimately, this will lead to revaluations of both land and commercial properties, which is necessary to get things back into equilibrium, but it means some tough times ahead for the folks who threw the dice and lost.

[Dotar Sojat]

Many will ask "Why won't the lenders just extend the loans on projects that are still cash flowing?" The answer is that the values have gone down, and a loan that was 65% LTV when it was made in 2005 is now a 100% LTV loan, and unfinanceable from the lender's underwriting standpoint. Lots of projects will be given backto the lendxers, which will flood the sales market and further depress values. Everybody needs to buckle their seatbelts.

[Roy Peter]

Rents have been declining since last two years. This is a big issue and some action has to be taken about it. Thanks for the info. Roy Peter- Real Estate Finance

[Grace]

Commercial real estate activity has suffered from a severe credit crunch for commercial sectors, sustained job losses and weak consumer spending, although the decline appears to be slowing.
I've been searching for documents about real estate and I found this site: Yellow documents, they've a lot of document types from different subjects.
Grace

[Art Deco]

Your source is not particularly reliable. The price indices reported here

http://web.mit.edu/cre/research/credl/rca.html

indicate that a crash in commercial real estate prices has already occurred, with declines in the markets assessed approaching 40%. The question at hand is where the precise bottom of the market is.

Your source also reports outstanding commercial real estate debt at $3.4 tn dollars. The Federal Reserve reports that commercial banks are carrying about $1.7 tn of commercial real estate loans on their books and the Office of Thrift Supervision reports that the institutions they regulate are carrying ~$85 bn in commercial real estate loans. Credit Unions do not offer commercial real estate loans. The commonly cited figure for the value of mortgage backed securities issued with reference to commercial real estate loans is $700 bn. There is thus about $2.5 tn of commercial real estate debt outstanding, not $3.4 tn. There is in excess of $14 tn in residential mortgage debt outstanding.

[Alex Williams]

We're already expecting that commercial foreclosures would explode in some moment. Now we must act, plans must be made to fight them!