2010 Update: Bailing Out a Sea of Commercial Debt
Retelling Chapter 4 (Part 2) and Chapter 5 of The Commercial Real Estate Tsunami by Tony Wood (foreword by Matthew Anderson, ISBN 978-0-470-63637-4).
The rest of the July 2009 testimony
Chapter 4 continues with testimony from Jim Helsel of the National Association of Realtors and Jon Greenlee of the Federal Reserve. Together they reinforce what DeBoer said and add ground-level detail.
Helsel called commercial real estate the “next shoe to drop.” Retail was getting hit twice: falling consumer spending and almost no refinancing confidence. An ICSC survey found 62.7 percent of shopping center owners had little or no confidence in refinancing in 2009, and 53.9 percent felt the same about 2010. Some estimates suggested 10 percent of America’s malls could close within a few years.
Sales volume collapsed. Only 607 major properties traded in Q1 2009 for $9.5 billion. Distressed inventory topped 5,300 properties worth more than $100 billion, with Manhattan alone near $8 billion.
Helsel shared painful member stories: a Memphis broker on his fifth failed contract because lenders said no before reviewing numbers; an Atlanta investor offering 75 percent equity on a discounted warehouse who still could not get 25 percent debt from banks that knew him for years.
Greenlee confirmed the macro picture. CRE sales fell from roughly $195 billion per quarter in 2007 to about $20 billion in Q1 2009. Bank CRE delinquencies doubled to 7 percent. Two-thirds of banks tightened standards and saw weaker demand. CMBS issuance had stopped. TALF was the Fed’s restart bet, but Greenlee stressed balance: lend to creditworthy borrowers without repeating boom-era mistakes.
Wood closes the chapter with a February 10, 2010 note: the Congressional Oversight Panel report on commercial real estate losses is required reading for anyone tracking the crisis.
Sam Chandan: policy that looked big but moved slow
Chapter 5 is a guest essay by Dr. Sam Chandan, chief economist at Real Estate Econometrics and adjunct professor at Wharton. Wood calls his forecasting track record one of the best in the country. Chandan does not retell the hearing. He explains what policy actually did in 2009 and where it fell short.
TALF expansion to CMBS was the headline fix. Markets welcomed it. In practice, it barely changed overall illiquidity that year. Attention shifted to bank portfolio stress, workout rules, and the shaky role of agency financing.
CMBS and REMIC relief
Treasury eased REMIC tax rules so servicers could modify securitized loans without triggering tax penalties. That was a real win after months of industry lobbying. Servicers could now treat a loan as at “significant risk of default” even while it was still performing, which opened the door to rate cuts, principal write-downs, and term extensions before maturity forced a crisis.
Chandan is careful not to oversell it. REMIC relief removed one disincentive. It did not fix moral hazard, scalability, or the deeper incentive problems inside CMBS structures. Surface-level fixes that ignore structure can backfire.
Stuyvesant Town: the Cassandra deal
Nothing illustrated CMBS risk like Peter Cooper Village and Stuyvesant Town. Tishman Speyer and BlackRock’s $5.4 billion bet on 11,200 rent-stabilized units unraveled when New York’s Court of Appeals ruled landlords could not push stabilized units to market rent while using J-51 tax benefits. Rating agencies had waved off legal risk in 2007 presale reports. Critics in 2006 were ignored as alarmists.
By late 2009, cash flow was far below debt service. Interest reserves were nearly gone. Debt service coverage in 2006 was around 0.4 using actual cash flow, not the rosy 2011 projections baked into ratings. Chandan invokes Cassandra on purpose: the people who saw the default coming were not believed until it was too late. A default that visible would chill securitization confidence for years.
Banks, regulators, and the GSE lifeline
While CMBS grabbed headlines, bank portfolios carried most of the exposure. In October 2009 the FFIEC issued a “Policy Statement on Prudent Commercial Real Estate Loan Workouts.” Banks doing thoughtful modifications would not face examiner criticism even if restructured loans still looked weak. Performing loans to solid borrowers would not be downgraded solely because collateral values fell.
That followed FDIC material loss reviews showing how fast CRE concentrations and sloppy incentive pay had blown up institutions. Ironically, the industry had fought 2006 concentration guidance with more than 4,400 comment letters, arguing this cycle was different from the late 1980s. It was not.
On the agency side, Fannie Mae and Freddie Mac remained the multifamily credit backbone under conservatorship. Fannie’s Q3 2009 loss hit $18.9 billion. Treasury transfers kept climbing. Canada’s entire 2009 federal deficit was smaller than what the U.S. had already pumped into either GSE. The 10 percent preferred dividend alone created billions in annual obligations that made profitability hard to imagine.
The next year outlook
Chandan’s year-end 2009 read was sober. FOMC minutes flagged CRE lagging the broader recovery. Bank CRE default rates rose from 2.88 percent in Q2 to 3.40 percent in Q3. Loans from 2006 and 2007 performed worst because underwriting chased projected cash flow, not in-place income.
One striking finding: among 5,015 banks with the largest CRE exposures, there was no statistically significant link between concentration and default rate. Institutional quality mattered more than raw exposure. Aggregate headlines hid huge variation between well-run community banks and disasters waiting to happen.
Wood’s handoff to Part Three is clear. Policy debates matter, but lenders now had to prepare for impact. Chapter 6 is where the survival guide begins.
Series navigation