Rising Commercial Loan Problems Threaten Regional Banks

By Eugene Bukoveczky | January 26, 2010 AAA

Now that most of the TARP money received by the major U.S. banks has been repaid and massive profits and huge bonuses are once more bringing smiles to the faces of American bankers, one might be tempted to conclude that the worst has now passed for the U.S. financial system.

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However, there are now increasing signs that some more ill-placed bets from the past could once again gate-crash this little party, and quickly turn smiles into tears.

Bad Commercial Real Estate Loans Now Coming Home to Roost
According to a recent study issued by Foresight Analytics, a California-based real estate research firm, a tsunami of bad commercial real estate loans is set to hit the U.S. financial system over the next few years, with the mid-cap banks being most at risk of being swamped by the flood.

The numbers are pretty alarming. This year, about 36% of the $270 billion in commercial real estate loans maturing this year are underwater - a situation where the mortgage balance exceeds the value of the underlying property. And things will get worse before they get better. By 2011, 49% of the maturing loans will be underwater, rising to 63% in 2012 and 61% in 2013, before cresting at 57% in 2014.

Between 2010 and 2014, a whopping $770 billion in maturing commercial real estate loans are expected to be underwater. The situation is so grim that even long-time players in the commercial real estate game are predicting that we are facing something akin to a "lost decade" for the U.S. commercial real estate market.

Tech Is a Wreck
Current realities seem to confirm such pessimism. U.S. commercial property prices have plunged more than 40% on average from their October 2007 peak, commercial landlords are facing 20% vacancy rates, and the default rate on commercial mortgages doubled during the third quarter of 2009. Even areas of presumed growth like Silicon Valley, home of the still-booming U.S. tech sector, remains a commercial realtor's nightmare: property values have been cut in half, and foreclosures are expected to double in 2010.

Mid-Cap Banks Most at Risk
While many of the major money-center banks will get to take their full measures of pain as these bad mortgages mature, the real pain is likely to be felt by many of the mid-sized regional banks that saw this form of lending as their ticket to growth. A partial list would include such names as Comerica (NYSE:CMA), Zions Bancorporation (Nasdaq:ZION), Huntington Bancshares (Nasdaq:HBAN) and Fifth Third Bancorp (Nasdaq:FITB), all of which have seen jumps in share price in recent days in response to bullish analyst pronouncements declaring that commercial real estate values have hit rock bottom. If this optimism turns out to be a tad premature, then some rapid reversals in share values will be in order.

The Bottom Line
Just when you think it's safe to be back in the water, this is when Jaws usually makes his appearance. And with so much blood in the water, you can bet that a feeding frenzy of the worst kind could be in the offing. Whatever happens in the commercial real estate market, current signs suggest that it won't be pretty.

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