Seven Cents on the Dollar –
If there’s one thing the pandemic taught us (that we can unanimously agree on), it’s that having an office isn’t always necessary to run a successful company.
Today, top talent wants to work from home, companies enjoy less overhead, and like it or not, this trend is tanking commercial real estate.
Sure, there’s the interest rate problem, but is it really that deep? The truth is that the office sector is never going back to its previous valuations. We’re in a new era, and this new era has massive ramifications.
In this episode of “we’re going off the rails on a crazy train,” we’re covering CRE, banks, and what the Fed thinks. Of course, we’ll tie it all together with what it means for those on the journey.
The Grass Ain’t Greener
Let’s take a snapshot of the looming commercial real estate spiral and travel to the former site of FedEx Custom Critical in Green, Ohio. It’s a gorgeous, 259,000 square foot headquarters building that was valued at $35M in 2006.
Because of this new era we’re in, FedEx decided to trade in this behemoth of a site for a far smaller location with just 75,000 square feet. They found a buyer for the Green location and sold it at auction for (brace yourselves) $2.4M.
That’s 7% of the 2006 valuation. That’s nine dollars per square foot.
The old location wasn’t in an urban slum, either. It’s in a prime suburban location, in close proximity to an airport and plenty of upper middle-class housing.
This is happening everywhere, from sea to shining sea.
Like the problem with New York Community Bancorp (NYCB) we discussed last issue, smaller banks with a ton of CRE will continue to go under. Big banks will gladly snatch them up and continue to get bigger.
Spelling Trouble
When it comes to worrying investors about regional banks, NYCB might be leading the pack, but there’s several more trailing close behind. Names like OceanFirst Bank, Valley National Bank are also under the spotlight as they carry a significant amount of commercial real estate debt.
Both OceanFirst and Valley National have CRE holdings above 300% as a proportion of total risk-based capital.
The data also shows that $3T of U.S. CRE debt is set to mature in the next five years. Close to 70% of all outstanding bank-held CRE loans come from small banks. Let that sink in.
Distressed debt investors are starting to back out of real estate as these regional banks have a much higher exposure to rates. Cue the symphony of more banks coming under scrutiny then failing.
Stressing the Truth
Our friends at the Fed have their eyes on the commercial real estate issue, too. In fact, our buddy J-Powell was just quoted in a 60 Minutes interview saying “it feels like a problem we’ll be working on for years.”
He also said it would be a “manageable problem” and doesn’t see it going towards a 2008-style crisis. However, he also acknowledged that some smaller and regional banks with concentrated exposures in commercial real estate are challenged. At least we’re getting a nugget of truth.
Powell’s partner in crime, Janet Yellen seemed to agree. She admitted she’s “concerned” about the combination of high interest rates and vacancy rates plaguing the commercial real estate market.
Of course, Yellen also said she believes the situation is manageable, “although there may be some institutions that are quite stressed by this problem.”
Quite stressed, indeed.
Hold on Tight
What does this mean for factors and asset-based lenders? We’re going to be busy.
This double-edged sword of “good for business, bad for the credit environment” persists. We’re swimming in a sea of a ton of unknowns, but it’s also a swell of opportunity. It’s a huge opportunity to experience some real mastery.
A true hero knows that achieving real mastery and balance means making peace with the ultimate paradox: that there are no guarantees. However, knowing this, heroes also dive right in while saying “hold my beer!”
What else can we do? Real mastery is knowing that the process itself, not some finish line, is the formula. We’re in it to win it, even if that means being in it for the long haul.
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Until next time,
