Crisis vs Opportunity

How to make sense of today’s commercial real estate mess

Ric Edelman: It's Thursday, February 8th. On today's show, commercial Real Estate. I've been warning you for more than a year, and as recently as a few weeks ago that we're facing a crisis in the commercial real estate market and that it's going to bleed into the banking sector. Well, now it's happening. 20% of the nation's office space is now empty, the highest rate since 1979. Those buildings aren't generating as much in rent as they used to. This is reducing the cash flow that the owners of those buildings used to get.  

That's a problem because those landlords still have to pay taxes on their properties, as well as maintenance and repair costs. They have to make their monthly mortgage payments too. But most of them got their loans in the past several years when interest rates were near zero. These are almost always short terms. Balloon loans and those loans are now coming due. The landlords either have to pay off the loans or refinance them. They don't have the cash to pay them off. And refinancing now has to be done at today's interest rates, meaning their monthly payments are skyrocketing at the very moment that their rental income is less than ever. So a lot of buildings are going into foreclosure. The owners are giving the deeds to the banks that lend them the money, and now the banks are stuck with the buildings that are worth less than what they had lent to them in the first place.  

And we've now got the new data. Non-performing loans where borrowers haven't made a payment in at least three months. They're now at $25 billion at the four largest banks in the country JP Morgan Chase, Bank of America, Wells Fargo and Citigroup. Not only are the banks out on $25 billion, they have to pay another $19 billion to FDIC to cover last year's bank failures, Silicon Valley Bank and Signature Bank.  

The situation is now so bad that the SEC wants banks to disclose more about their exposure to commercial real estate, and they're not just asking the big four about this data. The SEC is also asking questions of community banks and regional banks because those are the banks that really do most of the lending to commercial real estate. Yeah, that local office building in your town, their lender is your local bank. New York Community Bancorp just said it lost $185 million on just two loans, and it thinks it's going to lose another 500 million on other loans. Its stock fell 40% on the news. And this isn't just a US thing. It's a global crisis. A big Japanese bank says its entire profit for the year was wiped out by bad building loans. It went from a profit of $164 million to a loss of $170 million, and its stock cratered.  

Deutsche Bank has just set aside $132 million for losses it says it's going to incur, and Swiss bank Julius Baer just wrote off $700 million from bad property loans. Its stock fell 50% and the CEO resigned. And I'm sure you've heard of Evergrande, the biggest real estate developer in China that's now gone bust, owing a third of $1 trillion. Here in the US, over the next three years, $2.2 trillion of commercial property loans are coming due, and a lot of them just don't have the money.  

So what do you do about this? Well, quite frankly, you might consider investing in banks and commercial real estate. Wait a minute. Isn't that contrarian? Isn't that the exact opposite of what you would think if the real estate market is cratering and the banks are losing money? Wouldn't I want to sell my investments in real estate? Wouldn't I want to get out of bank stocks? Well, think about it. New York Bancorp stock is already down 40%. In other words, the bad news is already here. This just might be the time to buy the financial sector, meaning the financial sector and the real estate sector. Rather than selling. You want to buy during bad news, not sell. By the time you hear of massive losses in the market, it's too late to sell. So for me, I would either take the attitude of do nothing, maintain a long-term perspective.  

In 10 or 20 years, this will be a distant memory. You'll forget all about it. Just think back to the credit crisis of 2008 that did a huge amount of damage to banks back then, as well as the real estate sector. Today, who cares? Real estate prices are an all-time high. So is the stock market. 20 years from now, you'll say the very same thing about today's crisis. So one, we could just ignore this whole thing as noise. Or number two, if you really want to play it, isn't this a buying opportunity? We need to approach investment decisions and investment attitudes differently from how our emotions would typically cause us to react. Yeah, lots of bad headlines. Lots of scary news. Don't let scary news and bad headlines cause you to make investment decisions you'll one day regret.  

It's Thursday and that means you can listen to my wife Jean's latest episode of Self-care with Jean Edelman. Each week, Jean takes you on the most meaningful journey, the inner journey. Jean's tips in these challenging times are focused on mindful living, self-care, nutrition, and the pursuit of balance in a busy world. The link to Self-care with Jean Edelman is in today's show notes.  

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