In contrast to the recent position taken by the Congressional Oversight Panel in their February 10, 2010 report mentioned in Part 1 of this series, there are economists, businesspeople and policymakers who have a less bleak forecast for the commercial real estate (“CRE”) loan market. One such example of this “non-crisis” position was presented in a research report by UBS Financial Services, Inc. entitled “Commercial Real Estate: Exorcising the Shoe” (the “UBS Report”). Some of the main points in UBS’ Report include the following:
(1) CRE Loan Market Smaller. The CRE loan market is one-third the size of the residential market arguably lessening the reach of any fallout from mass CRE loan failures;
(2) CRE Supply in Check. Unlike the residential real estate market, the CRE market was not overbuilt and therefore does not suffer from the excess supply issues in the residential sector. As a result, CRE valuations should not plunge as dramatically as residential home values have in many areas of the country;
(3) Better Underwriting. While CRE loans certainly weren’t immune from the more liberal underwriting standards experienced during the recent “bubble” or boom years in real estate, the underwriting on commercial mortgage loans were more thorough than residential loans and generally had lower loan-to-value ratios than typical residential loans;
(4) CRE Losses can be Absorbed. Most of the larger banks now have higher capital reserves to handle CRE losses;
(5) Some CRE Losses have already been Recognized. Some argue that the market has already taken into consideration both actual and potential defaults in the approximately $700 billion worth of CRE loans (about 20% of all CRE loans) that are in the form of commercial mortgage backed securities (“CMBS”);
(6) CRE is an Income Generating Asset. Unlike most residential real estate, commercial real estate generates (or has the potential to generate) income making workout options more viable.
The UBS Report considers the distinctions between CRE and residential real estate to be important factors in why we won’t see a repeat of the severe credit crunch created by the residential loan market in 2008 and 2009. Let’s hope they’re right!