After a period of silence, issues have recently resurfaced in the U.S. commercial real estate sector.

Previously, in an exclusive interview with Yicai, Erin Browne, Managing Director and Multi-Asset Portfolio Manager at global bond giant PIMCO, was asked about her judgment on the risk of bond market defaults against the backdrop of the Federal Reserve's continued high interest rates. At that time, Browne stated that she was not worried about a general wave of defaults or risks, but "we will still see potential situations for some bond defaults, especially in the commercial real estate sector."

Recently, reports from both Bank of America and Barclays have shown that investors in the AAA-rated tranches of some Commercial Mortgage-Backed Securities (CMBS) have suffered losses. This is the first time since the 2008 financial crisis that the highest-rated bonds backed by commercial real estate have experienced such losses. PIMCO, the bond giant, recently forecasted that more regional bank failures will occur in the U.S. due to commercial real estate loans.

For the first time since the financial crisis, AAA-rated European and American CMBS have suffered losses.

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A recent report by Bank of America analyst Mark Nichol showed that the AAA-rated tranche of a CMBS backed by a British shopping center has suffered losses. A recent report from Barclays also showed that an office building located near the Hell's Kitchen neighborhood in Manhattan, New York City, was recently sold at a 67% discount from the purchase price. The CMBS, valued at $308 million, resulted in a 25% loss for investors in the AAA-rated bonds after the discounted sale. Both reports emphasized that this is the first time since the 2008 financial crisis that the highest-rated bonds backed by commercial real estate have experienced such losses.

Analysts have indicated that this situation suggests that there may be some serious issues within the European and American financial systems, and even the highest credit-rated CMBS are no longer safe. It also indicates that the decline in the value of European and American commercial real estate may be more severe than the market expects.

Cas Bonsema, an ABS and covered bond analyst at Rabobank, commented that this situation suggests that the decline in commercial real estate values may be quite severe. However, he also added that this market-exceeding drop may only apply to certain specific portfolios.

Fitch, a global rating agency, recently released an analysis report warning that the value of U.S. office buildings may experience a drop greater than that of U.S. real estate during the 2008 subprime crisis. According to Fitch's data, to date, the value of U.S. office buildings has cumulatively fallen by about 40%, and the U.S. commercial real estate market is far from bottoming out.

In Bank of America's global fund manager survey in June, 34% of fund managers listed U.S. commercial real estate as the most likely source to trigger a potential global credit crisis. The U.S. shadow banking industry (involving activities of non-bank financial institutions) was listed as the second most likely source, with 22% of respondents choosing this option, while U.S. government debt ranked third with 17%. The survey also showed that 73% of fund managers believe that the U.S. is the most likely to trigger a credit event.

U.S. regional banks will face more risks of failures and consolidation.When it comes to the risks of commercial real estate, one cannot help but think of regional banks in the United States. PIMCO's latest forecast suggests that more regional banks in the U.S. are likely to fail due to the "highly concentrated" problematic commercial real estate loans on their books.

According to the Federal Reserve's Financial Stability Report in April 2024, as of the fourth quarter of 2023, the U.S. commercial real estate (CRE) market was valued at $22.5 trillion, and approximately $1.6 trillion of CRE debt is set to mature from 2024 to 2026. CRE loans have relatively short terms, akin to "bridge loans." In the past, ultra-low interest rates made refinancing costs lower than the initial financing costs. However, the Federal Reserve's continuous rate hikes over the past two years, coupled with sustained high interest rates, have led to a significant increase in refinancing costs.

Data indicates that U.S. banks and savings institutions hold about 50% of CRE debt, with two-thirds of that held by small and medium-sized banks. The scale of these banks' commercial real estate loans far exceeds their core capital, and a 20% non-performing loan ratio could lead to bankruptcy. CRE refers to non-residential real estate, including office buildings, shopping centers, hotels, and various other types of commercial properties.

John Murray, Managing Director at PIMCO who oversees the global private commercial real estate team, recently warned that U.S. regional banks, as major lenders in the CRE sector, are "only at the beginning of a wave of real distress." In his view, the uncertainty surrounding the Federal Reserve's interest rate cuts has exacerbated the challenges faced by the CRE industry. High borrowing costs have depressed valuations and triggered defaults, leaving regional banks stuck with hard-to-sell assets. In contrast, large banks have been selling off high-quality assets, allowing them to avoid further losses.

He revealed that over the past 18 months, his team has been purchasing CRE loans that large U.S. banks have been offloading. "As non-performing loans increase due to maturities, we expect large banks to sell more of these more challenging loans to reduce their exposure to problem loans," he said. Regional banks are particularly sensitive to this turmoil. New York Community Bank (NYCB) was recently reported to be seeking external capital to support its balance sheet, with commercial real estate being a significant issue leading to the crisis. For banks, a decline in the value of collateral assets could lead to an increase in the "loan-to-value ratio," which is the ratio of the loan amount to the actual value of the collateral. In extreme cases, the loan amount could even exceed the market value of the mortgaged real estate, putting pressure on the asset structure of regional banks.

Federal Reserve Chairman Powell stated on June 12th that the U.S. banking system remains sound, strong, and well-capitalized, with loan issuance also remaining healthy, suggesting that the banking system appears to be in good condition. However, Greg Friedman, co-founder of Atlanta-based real estate investment firm Peachtree Group, said, "I disagree with Powell's view; we are seeing an increasing risk of regional bank failures and the banking industry being forced to undergo significant consolidation."

Don Peebles, founder of real estate developer Peebles Corp., also stated, "U.S. office building prices are in free fall." He believes that the Federal Reserve's rapid and excessive interest rate hikes have triggered instability in regional banks.