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The commercial real estate industry, especially office buildings, is facing significant challenges following the rise of remote work since the onset of the pandemic. Office spaces constitute almost a quarter of the total commercial real estate in the U.S. Current pressing concerns for the industry include rising vacancies, declining rents, and stricter regulations for refinancing debts. Higher interest rates have led to increased expenses for landlords and a drop in property valuations. These challenges add to the recent banking turmoil amid fears of a recession. At the JP Morgan Chase investor conference earlier this week, the bank's CEO Jamie Dimon told analysts that commercial real estate is likely to cause problems for lenders. During the question and answer session at the event, Dimon said, "There's always an off-sides. The off-sides, in this case, will probably be real estate. It'll be certain locations, certain office properties, certain construction loans. It could be very isolated; it won't be every bank." According to an analysis by S&P Global Market Intelligence, commercial real estate loans' delinquency rate at U.S. banks increased in the Q4 of 2022. Loans over 30 days past due and those in nonaccrual status were up from 0.58% of CRE loans in Sept. 2022 to 0.65% at the end of Q4. A recent report published by Brandywine Global Asset Management estimated potential losses for institutions to be in the mid-to-high single digits in the next three to five years. The report expects the office vacancies to increase another 10% to 20%. The positive note is that the projected losses will not reach the 9% to 14% experienced during the global financial crisis. The report attributed this to better underwriting on current loans, price appreciation, and lack of distressed sellers.
The report expects to see loan extensions, modifications, and debt restructurings in the future. It also noted that how the problem loans are resolved would depend on the idiosyncratic condition of the properties, the economic condition of their locations, and the interest rate. Bank of America Securities refreshed its outlook to address the misrepresentations in commercial real estate and cautioned more downgrades in leveraged loans. BofA pointed that positive underwriting trends, higher debt service coverage ratios, and lower loan-to-value ratios indicated a less challenging scenario for refinancing CRE debt. Here are the other positive trends published in the report:
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