Building Model With Agent Negotiating With Client

The value of commercial property loans that have missed at least one payment grew by $4 billion, about 30 percent, in this year’s third quarter, data service BankRegData said. The total value of delinquent loans so far this year is about $10 billion.

Inflation, remote work, and the highest interest rates in 23 years have erased operating margins for many owners of properties rented to others, the Financial Times noted.

Only 1.5 percent of commercial property loans are delinquent, not a worrisome proportion, analysts told the FT.

However, the market is “getting ugly fast,” BankRegData CEO Bill Moreland said in comments quoted by the FT, and analysts say the number of troubled loans will rise steadily.

“It’s not a hiccup,” Leo Huang, chief of commercial property debt at asset manager Ellington Management Group, said to the FT. “Property prices are going to come down and loan delinquencies are going to keep going up.”

Third-quarter figures could not include WeWork’s bankruptcy, announced last week. The co-working giant had 193 office spaces under lease in the U.S. at the end of June. As part of its bankruptcy process, the company will cancel leases at several marginally-performing sites.

WeWork’s collapse prompted Wells Fargo to add a mid-size Manhattan office tower to its list of property loans that might go bad, the bank announced.

Wells Fargo holds more than $70 billion in active commercial property loans, making it the sector’s largest lender and, therefore, the most at risk of losses. 

The value of its past-due loans in the category rose by 50 percent in the third quarter to $3.4 billion; a year earlier, the figure was just $400 million.

Regional bank PNC, based in Pittsburgh, saw the value of its past-due commercial property loans more than double in the last quarter to $723 million.

“The pressures we anticipated within the commercial real estate office sector have begun to materialize,” Rob Reilly, PNC’s chief financial officer, said to analysts in September. The bank has set aside enough reserves to cover the expected losses, he added.

Bank of America either forgave interest or extended due dates on another $750 million worth of commercial property loans in the last quarter, raising the total value of such loans active in the quarter to $1.2 billion.

Banks will extend or modify loans if they think the loan can be saved, bank analyst Christopher Whalen at Whalen Global Advisors said in an FT interview. “If the bank has to take back the building, the value can get cut in half,” he said.

There is “pain to come, that’s for sure” as delinquency rates rise for at least another 12 months, analyst Kevin Fagan at Moody’s said to the FT.

TREND FORECAST: As we said in “Office Vacancies Rise, Cutting Sales of Buildings” (17 Oct 2023), banks have been stockpiling cash against bad loans in commercial real estate. To protect that cash, lenders will be eager to negotiate with borrowers to keep loans alive in some form.

However, banks will begin to draw down those reserves later this year and into 2024 as defaults mount.

The economic dangers ahead for the banking system, cities that are losing needed tax revenue, and the numerous businesses closing as fewer people commute are barely reported in the mainstream media. We forecast that as interest rates remain high, the number of defaults will increase, especially on floating loans which will, in turn, take down many small and medium size banks—and as they go out of business the big banks will get bigger.

Cities will have little recourse as their property tax revenues shrink with office buildings’ valuations. As a result, municipal governments will be forced to cut services, making cities even less desirable places to live or work, and setting off a downward spiral in which a declining quality of life and shrinking tax base erode each other.

TREND FORECAST: On the upside, as more big cities go down, more people will be moving to suburbs and ex-burbs, especially those that have old style American architecture, the spirit of downtowns with Mom & Pop shops, and a hip, cool, high class nightlife… which barely exists anymore.

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