Commercial Real Estate A Time Bomb; FDIC Anticipating Large Number Of Bank Closures

Sometimes, connecting the dots doesn’t require too much knowledge, education, or analytical ability.

For example, when you read reports like the following from Bloomberg, “Commercial Real Estate Is a ‘Time Bomb,’ Maloney Says” -

The $3.5 trillion commercial real estate market is a ticking “time bomb” that may lead to a second wave of losses at large U.S. banks, congressional Joint Economic Committee Chairwoman Carolyn Maloney said.

About $700 billion in commercial mortgages will need to be refinanced before the end of 2010 and “doing nothing is not an option,” Maloney, a New York Democrat, said at a committee hearing today. This “looming crisis” may lead to significant losses for banks, force shopping center and hotel owners into bankruptcy, and impede economic recovery, she said.

The response by banks to this “growing threat has been slow and inadequate,” said James Helsel, a partner at RSR Realtors in Harrisburg, Pennsylvania, and treasurer for the National Association of Realtors. “The lack of liquidity and banks’ reluctance to extend lending are also becoming apparent in the increasing level of delinquent properties.”

There were 5,315 commercial properties in default, foreclosure or bankruptcy at the end of June, more than twice the number at the end of last year, with hotels and retail among the most “problematic,’ Real Capital Analytics Inc. said in a report yesterday. Losses on commercial mortgage-backed securities, or CMBS, will total 9 percent to 12 percent of the market, or as much as $90 billion, said Richard Parkus, a research analyst for Deutsche Bank Securities in New York.

Bottom Not Near

The bottom is several years away, and it will be at least 2012 before there is “palpable improvement” in the commercial real estate market, Parkus told lawmakers at the hearing. “It’s hard to imagine fundamentals improving in an environment where we are beginning to see massive increases in defaults.”

The largest concentration of distressed properties is in New York City, Helsel said. Las Vegas, Los Angeles, Detroit, Phoenix, Chicago, Dallas and Boston also have high distress rates, he said.

A tightening in issuance of CMBS, which used to account for about 30 percent of financing, has exacerbated problems, Jon D. Greenlee, the Federal Reserve’s associate director for banking supervision and regulation, said in prepared testimony today. A disproportionately high number of small and medium-sized banks have “sizable exposure” to commercial real estate loans, and delinquency rates at around 7 percent in the first quarter are almost double from a year ago, he said.

“Market participants anticipate these rates will climb higher by the end of this year, driven not only by negative fundamentals but also borrowers’ difficulty in rolling-over maturing debt,” Greenlee said. “In addition, the decline in CMBS has generated significant stresses on the balance sheets of institutions that must mark these securities to market.”

Fed Programs

The Federal Reserve has expanded its Term Asset-Backed Securities Loan Facility, or TALF, to new and existing commercial mortgage backed securities to jump start the market. Maloney said the Public Private Investment Program, or PPIP, may also help with the problem as officials release more details of its potential use.

Maloney said the TALF program expires at the end of this year, which may short cut its effectiveness “just as it begins to ramp up.” She also said that uncertainty about the future of the PPIP has kept many investors “on the sidelines, so there’s some urgency to the Treasury providing additional clarity about the program.”

- it’s not too hard to see why, as the Washington Business Journal reveals in “Economist: FDIC Gearing Up for Bank Closures,” things are humming in one particular corner of the financial realm:

The Federal Deposit Insurance Corp. is gearing up to handle a large number of bank failures expected as a result of bad mortgages, both in residential and commercial real estate, an economist said Tuesday.

“They know they’re going to take down a large number of banks and they can’t do it until they’re staffed up,” said Mark Dotzour, chief economist and director of research for the Real Estate Center at Texas A&M University.

Dotzour expects federal regulators to establish an agency, similar to the Resolution Trust Corp. that disposed of assets belonging to insolvent S&Ls in the late 1980s and early 1990s.

“Once they start to sell [foreclosed real estate], we’ll find out what the market really is,” Dotzour told attendees at an economic summit hosted by a handful of real estate groups in Tampa, Fla.

Dotzour blamed federal intervention for the lack of commercial real estate investment activity in recent months, as well as the failure of businesses to make major decisions.

“Nobody knows what to do so they’re doing nothing,” Dotzour said at the luncheon meeting at the Intercontinental Tampa.

Government, in its quest to help the economy, is causing harm by propping up failing companies and regularly changing rules, he said.

“No one can predict what the government will do,” Dotzour said.

“People are frozen. It’s not that they don’t want to invest in the future, the rules are unclear,” he said.

He jokingly called the Federal Reserve “inksters” for routinely printing money to bail out big business, including banks that are still not making many loans.

The government’s role in a capitalistic society, he said, “is to make the rules and get off the dance floor.”

Businesses and individuals that can’t pay their bills should resolve their problems in bankruptcy court, not with money from the government, he said. It’s a process that has worked for decades, for generations.

“Everyone has a lesson to learn here, including you and me,” he said. “We have to live within our means.”

Dotzour expects foreclosure rates to continue to climb, real estate prices to fall more and cap rates to rise to at least 9 percent before leveling off.

In 2010 and 2011, interest rates will begin to rise, as will inflation. Once investors realize the market is at bottom, deals will begin to flow again, he said.

In the meantime, he compared the bad loans that remain on banks’ books to a smelly cat litter box and the feds keep throwing more litter on top

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Comment by Mansard Commercial Properties

2009-07-10 08:55:50

whenever the market does hit bottom, I think when it starts to rise again, the market will be stronger than ever.

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