As the US banking sector prepares to report second-quarter earnings, focus will once again be on institutions’ commercial real estate exposure, and in particular the performance of their outstanding loans.
The problem is that much of the data may well not be reflecting the reality, or at least not the most worrying part of that reality. The latest clue – if fears about the long-term sustainability of areas such as office property were not enough – comes from the fact that reports are growing of banks looking to sell performing loans at a loss.
In banks’ first-quarter earnings numbers, CRE loan-loss allowances and the rates of nonaccrual and past-due loans were indeed rising, but they were still low. Nonaccruals were typically below 1%, certainly not rates that should cause a problem for sizeable regional banks.
Suddenly, a performing loan against an income-producing property has become a horror show for a lending bank
But these rates, while not meaningless, miss two of the bigger points for banks.
The first is that the CRE sector has a tendency to be binary. A loan can be performing fine, but if the property is abruptly vacated – either because a lease could not be renewed or because a tenant has failed – there is a sudden problem.
Second,