Falling Commercial Real Estate Prices Threaten Bank Losses
Plummeting commercial real estate prices could cause steep bank losses as people continue to work from home and shop online amid the global pandemic, according to a CNBC report on Sunday (Oct. 25), citing a study from Oxford Economics.
Current inactivity caused by COID-19 is showing crippling signs like steep loan losses; this is similar to other downturns and could signal cause for alarm, Adam Slater, economist at Oxford Economics, said in a report.
When 5% of loans are written off, that is the same as a 1-10% loss of banks’ tier one capital, according to the Oxford Economics report, which evaluated 13 major economies. Asia would be affected the most, it said.
Similar loan losses in the U.S. comprised 25-30% of write-offs during the 2008 Great Recession.
“Large (commercial real estate) price declines generally translate into big losses for banks. Write-offs of (commercial real estate) loans made a big contribution to overall bank losses in the last two major downturns,” Slater said in the report per CNBC.
Aside from the U.S., Australia, Hong Kong and South Korea are showing “significant” loan exposure. Hong Kong is already experiencing a decline in commercial property prices, the report indicated. Singapore has seen its biggest drop in office rents in 11 years, according to the data, dropping 4.5% in the latest quarter, which ended in September.
“Could the coronavirus crisis lead, via the commercial property sector, to long-term problems for the banking and financial systems? We think it is a genuine concern,” Slater wrote.
He said that hotels have low occupancies, foot traffic is slow in retail shops, and offices are closed or have little staff. “In these circumstances, rental income and debt repayments from affected sectors are in grave doubt.”
On the upside, he said banks “are in better shape” to handle losses, with capital and leverage ratios “around double the levels a decade ago,” Slater said.
He pointed out that the 2008 financial crisis introduced new ways to lower risk and up resiliency by maintaining minimum leverage ratios and reserve capital levels.
The number of criticized loans — those secured against empty buildings — were up 62% in the second quarter, clear warning signs about a borrower’s ability to pay.