Small and midsized banks could face another crisis due to their outsized investment in the commercial real estate sector, which is struggling under the weight of a lack of demand and high interest rates, experts told the Daily Caller News Foundation.
Small banks, defined as those outside the top 25 in assets, hold only 36% of all loans but own around 70% of commercial real estate loans, according to Federal Reserve data reviewed by the DCNF. Smaller banks’ exposure to the struggling commercial real estate sector poses a significant risk in terms of triggering another banking crisis, as those banks rely on returns from indebted developers that they might not be able to payout, experts told the DCNF.
“My view is that the commercial property market is a slow-moving train wreck that is going to have a major adverse effect on the regional banks,” Desmond Lachman, a senior fellow at the American Enterprise Institute, told the DCNF. “That, in turn, could derail the economic recovery and force the Federal Reserve to cut interest rates in a big way. The basic problem for the commercial property market is the record high vacancy rates that have resulted from the increased post-COVID trend for people to work at least part of the week at home rather than at the office.”
Around $2.81 trillion in commercial real estate loans are set to come due through 2028, when firms will have to decide whether to pay off the loan in its entirety or refinance at a higher interest rate. A total of $544.3 billion in commercial real estate loans came due in 2023, the largest amount ever, which led many developers to refinance under the current costly credit conditions.
Interest rates for commercial real estate loans are being swollen by hikes to the federal funds rate by the Federal Reserve, which is currently sitting in a range of 5.25% and 5.50%. Developers could soon see some relief with the Fed projecting that the federal funds rate will be cut to around 4.6% this year.