If the banking crisis triggered by U.S. commercial real estate spreads, the domestic financial market will likely not be able to avoid direct or indirect shocks. Douglas Diamond, a professor at the University of Chicago Graduate School of Business who attended the Dong-A International Finance Forum last year, said, “Most commercial real estate loans in the United States are made by small and medium-sized banks.” “It will cost a lot of money to do it,” he warned. If the bankruptcy of small and medium-sized banks in the United States becomes a reality, there is a high possibility that fear will spread to the global financial market.
The soundness of domestic financial companies with large exposure to overseas real estate may also deteriorate. Last December, Kim So-young, Vice Chairman of the Financial Services Commission, inspected overseas real estate alternative investment risks and requested the Financial Supervisory Service to closely monitor the possibility of losses and the response of each financial company.
However, financial authorities believe that it is unlikely that losses from overseas real estate alternative investments will spread to a crisis in the domestic financial system as a whole. This is because the financial sector's ability to absorb losses is sufficient, and even if asset values fall further, the maximum loss is expected to be only a small amount compared to the financial sector's equity capital. An official from the financial authorities said, “We are intensively looking at the exposure of domestic financial companies to overseas commercial real estate,” and added, “We are operating an emergency response plan in case the volatility of market indicators increases due to the financial crisis caused by the recession in the U.S. commercial real estate market.”.
Although four years have passed since the novel coronavirus infection (COVID-19), office buildings around the world, including the United States, are still suffering from high vacancy rates, high interest rates, and declining values. Last December, the 62-story Aon Center, one of Los Angeles' landmark buildings, attracted attention when it was sold for 45% less than the purchase price in 2014.
The problem is that the loan maturity that building owners had postponed as long as possible is coming back. According to data information company Trep, commercial real estate loans maturing in the U.S. this year will amount to $544 billion (720 trillion won) and reach $2.2 trillion (2,907 trillion won) by the end of 2027. Mid-sized banks, such as NYCB and Aozora Bank, have been criticized for being vulnerable to risk as they often rely on specific portfolios. The Wall Street Journal (WSJ) reported on the 1st that “the commercial real estate crisis originating in the United States is hitting three continents: the United States, Asia, and Europe.”
2,900 trillion won loan ‘time bomb’
In its earnings announcement on the 31st of last month, NYCB announced that it had increased its loan loss provisions to prepare for concerns about non-performing loans not only for commercial real estate but also for apartment complex loans, which are subject to rent restrictions under New York City regulations. This immediately stimulated investors. NYCB acquired Signature Bank, which went bankrupt last year following Silicon Valley Bank (SVB), and raised its assets to over $100 billion (KRW 133 trillion), making it the 'winner of the banking crisis', but there are concerns that it could become the epicenter of the commercial real estate crisis. It was wrapped up.
Accordingly, credit rating agency Moody's placed NYCB on a ‘credit rating downgrade review list’ that could downgrade it to speculative grade. Moody’s said, “It reflects unexpected losses, decreased profits, decreased capital, and increased proportion of marketable financing in the New York office and apartment real estate sector.”
Banking stocks across the board showed a sharp decline for two days, with stock prices plummeting reminiscent of the SVB bankruptcy in March of last year. On the 31st of last month, the KBW Nasdaq Regional Bank Index (KRX) fell about 6%, the worst decline since SVB's bankruptcy. KRX also fell 2.3% on the 2nd.
Real estate crisis hitting three continents: the US, China, and Europe
The sense of crisis is spreading to Japan, Germany, and Switzerland. On the 1st, Aozora Bank, a mid-sized Japanese bank, lowered its previous forecast of profit of 24 billion yen (217 billion won) to 28 billion yen (28 billion won) due to losses from U.S. commercial real estate loans in the first quarter of this year (January to March). It fell sharply to a net loss of 253 billion won. The stock price fell 21% that day and plummeted 15.9% on the 2nd. Deutsche Bank, a global bank, also announced that it had increased its loan loss reserves for loans related to U.S. commercial real estate from 26 million euros (37.4 billion won) a year ago to 123 million euros (177 billion won).
The downturn in commercial real estate in Europe as well as the U.S. is leading to insolvency in the banking sector. With European real estate conglomerate Cigna Group filing for bankruptcy, Julius Baer Bank, one of Switzerland's three largest banks, announced a loan loss reserve of $700 million (KRW 930 billion) on the 1st, saying it may have difficulty repaying Cigna's loans. The bank's CEO Philip Rickenbacher resigned immediately and decided to close the department that decided to lend to Cigna.
Wall Street believes that this situation will not lead to a drastic bank run (large-scale deposit withdrawal) or bankruptcy like the SVB bankruptcy last year, but that it will continue as a chronic problem for more than two years. Former Federal Reserve Director Elizabeth Duke diagnosed in an interview with Bloomberg News, “When someone says, ‘(Insolvency) is everything,’ there is a high possibility that it is not everything in reality.”
It seems that the domestic financial market will not be able to avoid direct and indirect shocks. The soundness of domestic financial companies with large exposure to overseas real estate may also deteriorate. However, financial authorities believe that it is unlikely that losses from overseas real estate alternative investments will spread to a crisis in the domestic financial system as a whole. An official from the financial authorities added, “We are operating an emergency response plan in case the volatility of market indicators increases due to the financial crisis caused by the recession in the U.S. commercial real estate market.”
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