Financial Stability Experts at the Fed Turn a Wary Eye on Commercial Real Estate

Financial stability experts at the U.S. Federal Reserve (Fed) are keeping an eye out for weakness after a year of rising interest rates, and as they examine the potential risks facing the system, office loans and other are increasingly focused on commercial real estate borrowing.

U.S. Federal Reserve (Fed) officials have sharply increased borrowing costs over the past year from near zero in early 2022 to just over 5% in an effort to curb rapid inflation by slowing the economy. So far, the impact of this drastic change has been most pronounced in the banking sector. In recent weeks, a string of high-profile banks have either gone bankrupt or faced turmoil.

But the Fed staff and market experts they surveyed named commercial real estate as another area to watch in the Fed’s biannual survey. financial stability reportwas released on Monday.

The sharp rise in interest rates over the past year has “increased the risk” that commercial borrowers will not be able to refinance their loans when they reach maturity, Fed staff wrote in a report, adding that He points out that the value remains the same. Raised. ”

“The magnitude of property price adjustments could be substantial and thus could lead to credit losses by holders of CRE debt,” the report said, adding that many of those holders were financially vulnerable to banks, particularly It points out that it is a small bank.

“The Federal Reserve has stepped up its oversight of CRE loan performance and expanded its examination procedures for banks with significant CRE concentration risk,” the report said.

The Fed’s comments on commercial real estate were more of a low-key watch than a blanket warning, but they came at a time when many investors and economists are keeping a close eye on the sector. Wall Street is particularly concerned about the prospects for office buildings in the downtown area, where workers have not fully returned after the shift to remote work that began during the coronavirus pandemic.

The report includes a survey of 25 experts from broker-dealers, investment funds, research and advisory bodies, and universities, who said they were aware of the risks from rising interest rates and stress in the banking sector. We ranked commercial real estate as the fourth biggest financial stability concern. , and tensions between the United States and China, but ahead of Russia’s war in Ukraine and the impending battle in Congress on raising the debt ceiling.

“Many contacts believed that real estate could trigger systemic risk, especially in the commercial sector, highlighting concerns over rising interest rates, valuations and changes in end-user demand. ‘ said the report.

The Federal Reserve’s stability report also highlights risks to the economy that may stem from the recent turmoil in the banking sector, with many officials predicting banks will pull back on lending. I am concerned that it is possible.Federal Reserve Board bank loan officer survey Announced on Monday.

Concerns “may cause banks and other financial institutions to further reduce the supply of credit to the economy,” the Fed’s report said. “A sharp reduction in available credit could raise funding costs for businesses and households, leading to a slowdown in economic activity.”

And if banks pull back in a dramatic way, there could be ripple effects, the Fed’s report warned.

“Decreasing profits in non-financial businesses could lead to increased financial stress and defaults for some firms,” ​​the report said.