Yesterday, the Congressional Joint Economic Committee held a hearing entitled “Commercial Real Estate: Do Rising Defaults Pose Systemic Threat?” to examine the growing financing problems faced in the commercial real estate market and potential solutions to the credit crisis in the sector. Testifying before the committee were:
- James Helsel, Treasurer, National Association of Realtors (NAR)
- Jeffrey D. DeBoer, President and Chief Executive Officers, The Real Estate Roundtable (RER)
- Richard Parkus, Head of CMBS and ABS Synthetic Research, Deutsche Bank
- Jon Greenlee, Associate Director, Banking Supervision and Regulation, Federal Reserve
Chairwoman Carolyn B. Maloney (D-NY) began the hearing by outlining the growing difficulties in obtaining refinancing in the current commercial estate market and the extent to which those difficulties pose a systemic risk to the U.S. economy. She noted that many loans issued at the peak of the commercial real estate market are maturing and that tenant lease payments are often not sufficient to cover the required debt payments. She stated that an aggregate of $400 billion in commercial real estate loans are set to mature this year and an additional $300 billion in 2010. The Federal Reserve recently extended the Term Asset-Backed Securities Loan Facility, or TALF, to include new and legacy mortgage backed securities and expressed the hope that the July auction would be more successful than the June auction.
Mr. Helsel noted that commercial real estate space generally and retail space specifically has been severely impacted by the contracting of the credit markets. Retail real estate owners face a double hit: consumers have reduced their spending during the economic recession, reflecting increased unemployment and reduced consumer confidence, and the real estate owners themselves face difficulties in securing refinancing. 62.7% of respondents to an International Council of Shopping Centers survey, which represents 12.6% of all shopping center space, cited little to no confidence in refinancing company debt during 2009. He noted that according to a recent U.S. News and World Report article, about 10% of the U.S. malls could close within the next few years. While applauding the steps taken to address the financing crisis, he stated that NAR supported expanding TALF to include commercial mortgage backed securities as collateral and extend TALF’s term to 5 years to accommodate the longer term nature of commercial loans. NAR also believes that the “fair value” accounting standards should be reformed to value assets in inactive markets.
Mr. DeBoer began by stating that the current credit system in the U.S. does not have the capacity to meet the legitimate demand for commercial real estate debt and that as a result, the stresses to the financial services system will increase. Because 9 million jobs are generated or supported by real estate, rising defaults and falling property values will have a severe impact on the economy as a whole. RER also supports expanding TALF through the end of 2010 as well as establishing a federally-backed credit facility for originating new commercial real estate loans. RER also recommends amending or repealing the Foreign Investment in Real Property Tax Act (FIRPTA) [http://www.irs.gov/pub/irs-utl/firpta.pdf], but opposes new real estate tax proposals, such as the carried interest proposal. He called on banks and loan servicers to extend performing commercial real estate loans based on cash flow analysis.
Mr. Parkus remarked that he believed the current economic recession is likely to exceed by a great magnitude the recession of the early 1990s. Default rates are already approaching the levels of the early 1990s and for those loans that do mature, 65% would likely not qualify for refinancing under existing underwriting standards. This has resulted in a 35%-45% decline in commercial real estate values. Commercial real estate financing markets must begin functioning normally in order for the economy to improve. He advocated the revival of the public securitization market because the traditional sources of financing (banks, insurance companies and pension funds) were likely to remain moribund. A vital commercial mortgage backed securities market is critical to provide financing to the commercial real estate market.
Mr. Greenlee noted the Federal Reserve’s actions in permitting both new and “legacy” high-quality commercial mortgage backed securities to become eligible collateral under TALF. Lower spreads between the primary and the secondary market for commercial mortgage backed securities would encourage new lending. The Federal Reserve has been active in balance its role of ensuring that the banking system remains viable and is able to meet the credit needs of the U.S. economy by aggressively pursuing appropriate monetary policy with its role of monitoring risk-management and promoting appropriate corrective measures at financial institutions.