Commercial RE Distress Will Have A Big Impact on Housing
Below is a recent article written by John Burns Real Estate Consulting Vice President, Lesley Deutch regarding the potential impact on the housing market as the Commercial Real Estate Market becomes distressed.
We were lucky enough to present at an all day Commercial Real Estate Symposium at the Fed, where the preeminent industry experts from each real estate sector shared what is occurring in their industry. Prior to the meeting, we had been estimating that banks would not recover 20% of the commercial real estate loans outstanding. Now, we feel that the recovery will even be less.
This distress will certainly have an impact on housing, and one that will be both good and bad at the same time.
• Good: As soon as commercial real estate distress hits the banks in full force, solvent banks will need to dispose of residential assets to concentrate on commercial real estate distress. This will create land buying opportunities in the next several months. Builders acquiring land for cheap means the beginning of a recovery.
• Bad: Banks with high commercial real estate exposure are unlikely to lend to the residential sector, and many of these banks will be lucky to survive at all. To determine whether or not your bank has significant commercial real estate exposure, check out their balance sheet, which is usually in the investor section of their website.
The Problem
Property values are now down 35% from the peak, according to Moody's. We think prices will fall even more as leases expire and the tenants lease less space at a lower rent.
Why is this a problem? Commercial banks own nearly 45% of mortgage debt outstanding. By comparison, the banks own only 21% of the single-family mortgage debt outstanding.
The insolvency of several thousand banks will overwhelm the understaffed regulatory system and it will take at least 3 more years for a healthy banking system to emerge. We expect the government to intervene even more than it has in order to save the US banking system. When this occurs, it could indirectly benefit home builders by providing great distressed land buying opportunities, and by shoring up the banks so the better banks can start lending again soon.
Rise In Foreclosures Ensures That Housing Supply Will Continue
According to the Center for Responsible Lending, a nonpartisan watchdog group based in Durham, North Carolina, there are more than 6,600 home foreclosure filings per day in the US, and with two million this year alone, the flood shows no signs of abating. Foreclosures, which started with subprime borrowers, have now moved on to the much bigger prime loan market on the back of mounting unemployment. Michael Barr, the Treasury Department's assistant secretary for financial institutions, said in congressional testimony last month that more than 6 million families could face foreclosure over the next three years.
As a result of the continued foreclosure increase, the housing market has a surplus of available properties. The shape of this second downturn is almost completely dependent on the level of government intervention that will take place.
For a number of reasons, banks have not been aggressively taking title to homes and selling them, which has resulted in very few distressed sales in comparison to the actual level of distress in the market. This delay in REO sales, along with historically low mortgage rates and an $8,000 tax credit, has helped to stabilize the housing market - temporarily.
It is very clear that price stabilization is temporary unless something is done. Here are some facts to help project what housing will be like in 2010:
- 13.54% of the 44.7 million mortgages tracked by the Mortgage Bankers Association are delinquent.
- 7.57 million homeowners are delinquent, applying the same percentage to the 11.2 million mortgages not tracked by the MBA (55.9 million total mortgages in the U.S.). That means that 10% of all homeowners in the country are delinquent.
- Based on historical trend analysis by Amherst Securities, 6.94 million homes that are already delinquent will be liquidated, which is more than a one year supply of distressed sales poised to hit the market sometime in 2010 and 2011. During Q1 2005, that figure was only 1.27 million.
- Defaults continue to grow at the rate of approximately 300,000 per month, assuring that the number of distressed sales will grow and will continue through 2012.
2009 Government Intervention
Government intervention to date has been extremely helpful in preventing an even more dramatic decline in home prices. As shown in the chart at right, housing demand has only fallen to "normal" levels and stabilized there. Without historically low mortgage rates, support for Freddie Mac, Fannie Mae and FHA, and an $8,000 tax credit, how far would sales have fallen this year and what would that decline in demand have done to pricing?
Conclusion
Demand needs to continue to be stimulated to bring down supply, particularly while the country continues to lose jobs. Without continued government intervention, home prices will plummet, banks and the GSEs will continue to lose money, and the economy has virtually no chance of increasing overall employment in 2010.
