The banking worries in the US this week were triggered by:
- New York Community Bancorp cutting its dividend on higher capital rules and commercial strain
- A Japanese bank reporting unexpected losses on US commercial real estate
- Deutsche Bank highlighting losses on US commercial real estate
Despite all the economic data this week, it was those headlines that left US 10-year yields 14 basis points lower on the week.
There are echos of subprime here as no one really knows the size of the problem, who is holding the losses and how it could be managed. What’s clear is that office real estate is severely impaired because of work-from-home changes following the pandemic. Vacancies are high and tenants have incredible leverage in asking for lower rents.
Banking rules require taking impairments once losses are reasonably foreseeable but that hasn’t really happened yet, in part because it’s still not clear how many workers will be called back to the office and how many companies will move out.
Under any circumstances, it’s fair to say that losses will be high. How high? Goldman Sachs estimates $1.2 trillion of commercial
mortgages are scheduled to mature this year and next, or about a quarter of all outstanding commercial mortgages, and the highest
recorded level going back to 2008.
The biggest single holders are banks
with a 40% share. Other estimates put the “maturity wall” as high as $1.5 trillion, according to Reuters.
“The office market has an existential crisis right now,” Barry Sternlicht, CEO of Starwood Capital Group ($115b AUM) told
the Global Alts conference. “It’s a $3 trillion asset class that is
probably worth $1.8 trillion. There’s $1.2 trillion of losses spread
somewhere, and nobody knows exactly where it all is.”
To illustrate, the entire size of the subprime US mortgage market in 2007 was $1.3 trillion.
There are two things that make this a particularly precarious situation:
- Small/regional banks hold much of the losses and they don’t have the ability to take much pain
- Due to hold-to-maturity bond market losses, raising new capital is prohibitively expensive and in many cases, impossible
There’s a reason the bond market got very skittish, very quickly this week.