S&P Lowers Insurance Companies - But What About The $400b CMBS Losses For Banks?

On Thursday, Standard and Poors lowered the counter party credit risk ratings of 10 insurers. The downgrades were the result of a previously announced review of the industry and commercial real estate loans, particularly CMBS. S&P indicated that the current economic weakness was the prime culprit for the new “stress” tests. From the report:

Given these difficult economic conditions, we believe that life insurer’s bond holdings, commercial mortgages, and commercial mortgage-backed securities (CMBS) could experience unprecedented stress in the next 12-18 months.

In a previous post, I wrote that the commercial banks are actually the largest holders commercial mortgages and CMBS. The following chart shows the percentage of commercial mortgage loans held by Commercial Banks, Life Insurance companies, CMBS issuers, Savings Institutions, and GSEs.

The chart illustrates that commercial banks have not only been the largest holders of commercial mortgages, but they have been increasing their exposure even during the economic crisis. The largest commercial banks have the following exposure to the credit markets:

During the savings and loan crisis the delinquency rate on commercial real estate reached highs of 12%. According to the Federal Reserve, delinquency rates on commercial real estate are running about 5%. If S&P is correct, then it is reasonable to assume that delinquencies will reach at least 12%. Commercial banks hold roughly $1.4 trillion commercial mortgages, which means that there are likely $100 billion more in losses to be recognized. If “unprecedented” levels mean delinquency rates approach the 30% level seen by sub-prime loans, then there could be as much as $373 billion in losses yet to be recognized. I suppose we will just add that to our tab….

Disclosure: I am long SRS

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