The Next Bank Crisis Is Coming Right Up, Commercial Real Estate Implosion

April 7, 2023

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7:30 pm

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Houston Office Leasing Down 29 Percent

Houston Office Market Leasing Down 29% in First Quarter https://t.co/LQXVdCkJlT

— Danielle DiMartino Booth (@DiMartinoBooth) April 4, 2023

Land Worth More Than the Building

MANY buildings will quickly & objectively be assessed for the value of the land they’re on. It will be about “location, location, location.” https://t.co/V7dc5bHLRY

— Danielle DiMartino Booth (@DiMartinoBooth) April 5, 2023

Cracks in the Edifice

Hey @danjmcnamara

Has the storm passed for everything except Office?

If that’s the case, why the cracks in the edifice across sectors?

A wise man once said a great company does not make for a great investment. His legendary name escapes me… https://t.co/JcjyAd21Ft pic.twitter.com/LkTOLT7oYj

— Danielle DiMartino Booth (@DiMartinoBooth) April 5, 2023

Impending Crisis

@FabiusMercurius has been talking about this very topic: https://t.co/kQ3spMhuzI

— Adrian Morris (@Futur3_Th1nk3r) March 28, 2023

Lease Renewals

With all this talk about CRE at least we know it won’t be the black swan event. Lol. https://t.co/voXX5Tj2Pv

— Tracey Ryniec (@TraceyRyniec) April 4, 2023

“More than 50% of the $2.9T in commercial mortgages will need to be renegotiated in the next 24 months when new lending rates are likely to be up by 350 to 450 basis points“

Who’s Holding the Bag?

hmmm … who is holding the losses on the debt/equity related to this vacant real estate … https://t.co/K8kSgpoX1t

— Richard Field (@tyillc) March 29, 2023

I discussed the answer in The Exceptionally Poor Timing of Small Bank vs Large Bank Cash Deployment

Here’s the key picture.

Monthly average Commercial Real Estate percent allocation of bank assets

Ripe for an Accident

Conditions look ripe for an accident in the short-term as this renewed risk in CMBS pulls forward the increased cost of borrowed money and decreased bank profits/lending. https://t.co/9SHjM5OQvZ

— Samantha LaDuc (@SamanthaLaDuc) March 28, 2023

And small banks do not have the deposit cushion of larger banks.

It would not take much for small banks to blow through that minimal cushion.

What will the Fed and FDIC do if there is a CRE-inspired run on smaller banks?

Guarantee everything?

This post originated on MishTalk.Com.

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Elevatorman

1 year ago

The trend to working from home will reverse and office vacancies will abruptly drop as companies look for space. I supervised remote workers for many years and the shine wears off after a few months or years. You miss the collaboration and division between work and home. The work from home bandwagon will be a naive and failed experiment for the vast majority of companies.

Mac Timred

1 year ago

Sorry but no. Small banks loan against small town/ small city properties. Trends applying to properties in CBDs in large urban centers are far less applicable. Pretend and extend will tide over any outliers.

Dynamo

1 year ago

I don’t know why the elephant is completely ignored. China is 4x-10x worse in their situation with real estate…we talk defaulting buildings…they have defaulting “cities”.

WarpartySerf

1 year ago

“What will the Fed and FDIC do if there is a CRE-inspired run on smaller banks?”

Same as they always do – protect their multi-millionaire buddies in the unelected banking cartel – and dump all

the losses on the unsuspecting “little people”. That’s what sheep are for .

vanderlyn

1 year ago

nice analysis mish. you really help me with r/e over the years. this pullback, crash, is music to my ears. smells like i’ll have to have patience like the last panic plunge crash long ago.

KyleW

1 year ago

Well that’s the case for inflation. They’ll create trillions of dollars to bail out the banks and the over-indebted Federal government.

whirlaway

1 year ago

“What will the Fed and FDIC do if there is a CRE-inspired run on smaller banks?

Guarantee everything?”

Yes, they will. They will do anything to save the backsides of the capitalist bankster class.

And they will also keep raising the interest rates, to screw the working class.

Captain Ahab

1 year ago

I would be very careful using ‘national’ averages right now. We are now in the ‘rolling recession’ phase. Depending on their economic base, some cities/regions will fare okay, other cities/regions, not so well. Smaller banks tend to finance smaller projects, usually local, or nearby cities, which may not be as overbuilt as bigger cities/other parts of the country, so lower vacancy rates. High growth areas will likely have the most to lose with inflated R.E. prices. You can see this by studying average annual additions to supply over time. Probably a lot of speculative overbuilding., Also, a lot of CRE debt is prime-rate-plus, so indexed–and the pain is less. This is unlike residential debt–often locked in for 30 years–and while ‘lenders’ generally don’t hold the mortgages, those who do are falling off the duration cliff.

xbizo

1 year ago

Reply to Captain Ahab

Spot on. 20% vacancy rates are not unheard of in this space. Vacancy and a CRE mortgage reset is going to set profitability back, but will eventually be covered by new absorption and rent increases. No doubt it will be a tough environment for a few years, but forcing a collapse of the small banks? I think that isn’t in the view screen. Owners are usually deep pocket investors with long investment horizons. I guess there could be a bunch of Trumps out there that could cause problems.

Captain Ahab

1 year ago

Reply to xbizo

Most CRE (and residential real estate, too) is low on equity and heavy on debt–the leverage greatly amplifying returns and risk. Many real esttae investors diversify their portfolios (Trump does by type and region) so there is some insulation. However, when real interest rates are negative, risk hardly matters–the risk-return tradeoff is greatly distorted, plus prices skyrocket. We are just now seeing the impact–high-priced assets with embedded (and not considered) high risk, about to become lower-priced. Aggressive diversification will help if done in the right categories–merely adding more of the same will not help–this underlies the 2007-8 crash.

If we apply portfolio theory for stocks/bonds to cities, using local employment by industry to generate betas (against national employment) , we can figure out how cities will fare in economic downturns/ booms. Now, apply that to real estate, since it is fixed in location, and it is possible to predict outcomes in the short-intermediate term. Going the next step, we can find economic fundamentals that lead industries–and use that to refine predictions by city.

IN short, both investors and ‘banks’ will suffer as this bubble implodes. I have a few high-probability fails–I look for fast growing real estate investors snapping up deals in the same RE category at high prices, and heavy on debt. Vacancy rates and breakeven points are key for all types and locations.

I disagree with the investors are ‘deep-pocket’… They are investors looking for the highest return and lowest risk. Not much has changed in that regard since CRE was a major tax shelter; despite changes to depreciation laws. Depreciation, operation expenses, and interest are all deductible, with losses carried against other income for taxes (limits notwithstanding). Equity also captures the tax benefits of capital losses when projects fail (Trump is classic). Meanwhile, in good times, after tax cash flow to equity makes hims rich.

xbizo

1 year ago

Reply to Captain Ahab

Thanks for your thoughts on CRE, CA. I was thinking of old families, owner-occupied and family office. To narrow a view. Around here properties can go unrented for 5-6 years waiting for a certain level of rent, land held long term without any income, projects held up for decades trying to get permits. But I am in a less urban area. There are a few syndications but they are not ‘most’ here.

$pringb0k

1 year ago

Why redo as residential or live there when the nearby offices are empty? The demand for that left with the jobs/employment. But if CRE implodes the city finances implode. So an attempted rescue of some sort is guaranteed.

Whatever it will look like, Minsky Monday is coming soon.

MPO45v2

1 year ago

Here are the upcoming probabilities for next 18 months from my own custom AI:

Banks: money withdrawal limits: 72%

Stocks: trading halt(s): 69%

Stocks: crash correction: 92%

Bonds (US Gov): default: 15%

Bonds (Corporate): default(s): 89%

People: sheep-like behavior: 100% ,,,bah…bah…bah…why didn’t anyone tells us this was going to happen…

Bonus

Black Swan Event: 59.3%

Felix_Mish

1 year ago

Reply to MPO45v2

That wouldn’t be from the latest rev of your parents’ custom AI, would it? 🙂

Directed Energy

1 year ago

Reply to MPO45v2

Never fight the Fed. Fed put will come back, always does

Lisa_Hooker

1 year ago

Reply to Directed Energy

Like it did in the early 1980’s?

worleyeoe

1 year ago

“The Next Bank Crisis Is Coming Right Up, Commercial Real Estate Implosion”

And right behind that will be the next Fed backstop.

Don’t worry people, your money is safe for now. All the Fed has to do is give ZIRP loans to banks that need backstopping.

Welcome to MMT policy circa 2023.

HippyDippy

1 year ago

They’ll definitely NOT bailout the small banks. In fact, I’d be surprised if the small banks survive the popping of the everything bubble. Of course, I don’t think very much of anything is going to be able to survive the magnificent leadership of our benevolent overlords. At least it’s pretty obvious that the government won’t survive. Its demise is our best chance for survival and prosperity.

Tony Bennett

1 year ago

Reply to HippyDippy

“They’ll definitely NOT bailout the small banks.”

…

Agree.

Just ask this question: Would Jamie Dimon prefer to acquire assets on smoking hot deals ?… or watch US taxpayer step in (and take a bath) to keep current small / medium banks around?

HippyDippy

1 year ago

Reply to Tony Bennett

Definitely can’t have those small banks interfering with those big bank profits! We must have one bank to rule them all! Luckily, though its lasted longer than any other central bank scam in history, this one is near the end of its run. They’re just gnawing on the bones of our economic carcass now. Should be interesting to see how this plays out.

HippyDippy

1 year ago

Reply to HippyDippy

I should have said the U.S. history. England has the record as far as I know.

vanderlyn

1 year ago

Reply to HippyDippy

trivia. the byzant of eastern roman empire had a sound currency for i believe over 700 years. i’m glad the russians pegged the ruble to gold a year ago. gonna bring back that old time religion……….

Dubronik

1 year ago

Reply to Tony Bennett

We will see the Buffet get involved

vanderlyn

1 year ago

Reply to Tony Bennett

you mean like the same trend for the past century. big banks in nyc, who own the FED RES NY, kicking the small regionals in the teeth when they are down. anyone surprised and doesn’t know the reason needs a crash course in actual banking history of the FED owners. only one mandate. the middlebrows are mostly ignorant. some catching on past 20 years. a few anyway.

Maximus_Minimus

1 year ago

Reply to HippyDippy

Bail out not, but wipe out shareholders, and sell to bigger banks with customer accounts moved.

FDIC did this dozens of times during financial panic, hence no bailouts or bailins.

The bailouts kick in when some of the top 20 threatens the whole Ponzi scheme.

SVB was the 12th biggest, although few knew it since it didn’t deal with the unwashed.

HippyDippy

1 year ago

Reply to Maximus_Minimus

12th biggest? Did not know that. Though it’s likely to get kicked down a bunch of notches before this debacle ends.

Tony Bennett

1 year ago

“More than 50% of the $2.9T in commercial mortgages will need to be renegotiated in the next 24 months when new lending rates are likely to be up by 350 to 450 basis points“

…

Commercial RE loans are generally 3 to 5 years (with say 20 year amortization schedule) before rollover. And with amortization payments heavily skewed interest early in payment schedule (and principal skewed on back end) … if on 3 yr, then a rollover payment now could be easily much higher than prior payment … right in the face of weak tenancy. Good luck.

Buyer’s market in another year or two as banks look to unload REOs.

One-armed Economist

1 year ago

110% with you on this. The fallacy “Emperor’s New Clothes” RE valuation methodology of ‘comps Vs your neighbor’s property’ can only revisit the Fed’s Zero-bound rate well so many times before the valuation is maxed out in an over-extended in a “Minsky Moment” when the zero-magic leverage wears out and can not be supported.

Another problem with the CRE pricing game is that eventually there are not real comps b/e the 1st valued asset is just too unique and not feasible to comp too. Then the comp fallacy unwinds in a deflationary environment. As the comp myths unwind. RE has just too systemically been a 1-way street as we bounce along zero and the porridge runs dry.

Lisa_Hooker

1 year ago

Reply to One-armed Economist

Damn the comps!

Land value + depreciated cost of new construction.

What valuation would you like today?

The Next Bank Crisis Is Coming Right Up, Commercial Real Estate Implosion

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