PIMCO: Another regional bank collapse looming due to bad commercial real estate loans
A year after a slew of high-profile bank failures, Wall Street warns of another wave of regional bank failures. Reason? "Troubled" commercial real estate loans.
In a recent note, Pacific Investment Management Co. pointed out that some financial institutions have a "very high" number of risky commercial real estate loans on their books.
Commercial property owners are reeling from low office occupancy‚ thanks to many businesses cutting back on space because of remote working and hybrid arrangements after Covid.
In turn, this has dramatically affected the valuation of commercial real estate, with the high cost of borrowing also leading to defaults.
To make matters worse, there's uncertainty over when—if at all —the Fed will start cutting interest rates. At the last meeting, policymakers urged patience and dialed back their forecasts from three to just one cut this year.
Regional banks typically have much greater exposure to commercial real estate than their larger counterparts—and according to John Murray from Pimco, this is a huge concern.
"The real wave of distress is just starting," he told Bloomberg in an interview.
Pimco is among a number of top investment funds that have been snapping up the commercial real estate debt being offloaded by banks in hopes of a rebound.
And according to The New York Times, some office buildings in Manhattan have even sold at a 70% discount.
This isn't a problem specific to the U.S., as banks in France and Germany also have high levels of exposure to troubled commercial real estate loans.
Investors are getting paranoid
In March, S&P Global downgraded its outlook to "negative" on five regional banks, saying their exposure to the struggling commercial real estate sector threatened their solvency.
Among the most affected institutions are First Commercial Financial, Valley National Bancorp, Trustmark, Synovus Financial, and M&T Global.
Meanwhile, Moody's has warned at least six lenders are in danger of having their debt ratings downgraded as well.
The downgrades and spotlight on troubled commercial real estate loans are already taking a toll on regional banks.
America's biggest regional bank, U.S. Bancorp, suffered a substantial fall in its stock price when it slashed dividends to increase its cash stockpile in the event loans go bad.
It's a sign that investors are still reeling from the sudden collapse of three regional banks in the space of three months last year—Silicon Valley, Signature, and First Republic.
Also of concern is how the substantial slump in commercial real estate is affecting government pension plans.
Last month, the Wall Street Journal reported that retirement funds for public sector workers in California and Canada had both unloaded properties at a loss, warning of more losses.
Although the Fed now anticipates just one interest rate cut by the end of 2024, it expects four next year. The state of the commercial real estate sector is one indication that the economy is starting to feel the pain of elevated rates.