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Canada’s real estate correction may bottom out with the spring market
Bank of Canada hold on interest rates could help stimulate a return to buying in the real estate market.
What’s more, the end to the correction depends in large part on whether the Bank of Canada has finished raising interest rates for the moment.
The central bank’s recent spate of rate increases, which started last March, have cooled real estate markets across Canada, leading to significant price declines in major markets. Higher mortgage borrowing costs only served to exacerbate existing affordability challenges in Ontario and British Columbia where average home prices were significantly higher than elsewhere in Canada.
While conditions could remain soft for some time, RBC noted that Canada’s real estate overall is bolstered by strong fundamentals positioning it for long-term growth. These include strong population growth paired with ongoing low supply for housing in many communities.
RBC further added new home construction has so far failed to keep pace with demand with about 220,000 completions in 2022. It said builders would need a pace of at least 270,000 units completed on an annual basis by 2025 to keep up with expected demand growth.
Commercial real estate is in trouble. A banking crisis will make it worse.
If there is anything commercial real estate owners don’t need right now, it’s a banking crisis.
Big owners of property around the country were already under pressure from the Federal Reserve’s aggressive campaign to raise interest rates, which raised borrowing costs and lowered building values. They also had lots of space still sitting empty in city centers as a result of more hybrid and remote work arrangements resulting from the pandemic.
Now they face the prospect that beleaguered banks, especially smaller ones, could get more aggressive with lending arrangements, giving landlords even less room to breathe as they try to refinance a mountain of loans coming due. This year, roughly $270 billion in commercial mortgages held by banks are set to expire, according to Trepp, and $1.4 trillion over the next five years.
“There were already liquidity issues. There were fewer deals getting done,” Xander Snyder, First American senior commercial real estate economist, told Yahoo Finance in an interview. “Access to capital was getting scarcer, and this banking crisis is almost certainly gonna compound that.”
Most of the banks that hold commercial real estate mortgages are small to mid-sized institutions that are experiencing the most pressure during the current crisis, which began this month with the high-profile failures of regional lenders Silicon Valley Bank and Signature Bank. The pressure on regional banks continued Friday, stoked by intensifying investor pressure on German lender Deutsche Bank as the cost to insure against default on its debt soared.
Smaller banks began ramping up their exposure to commercial real estate in the aftermath of the 2008 financial crisis, which was triggered by a housing bust, and stuck with it even after the pandemic emptied out many city-center properties and other forms of borrowing provided by commercial mortgage backed securities and life insurers dried up.
Signature was among the banks that made some of these bets, becoming an aggressive lender in New York City to office towers and multifamily properties. By the end of 2022 it had amassed nearly $36 billion in commercial real estate loans, half of which were to apartments. That portfolio comprised nearly one-third of its $110 billion in assets.
More than 80% of all commercial real estate loans are now held by banks with fewer than $250 billion in assets, according to a report by Goldman Sachs economists Manuel Abecasis and David Mericle. These loans now comprise the highest percentage of industry loan portfolios in 13 years, according to John Velis of BNY Mellon.
“There’s a lot of commercial real estate that’s been financed over the last few years,” BlackRock Global Fixed Income CIO Rick Rieder told Yahoo Finance on Wednesday. “When you raise rates this quickly, the interest-sensitive parts of the economy, and particularly where there’s financing or leverage attached to it, then that’s where you create stress. That’s not going away tomorrow.” Commercial real estate, he added, doesn’t represent the same type of systematic risk to the economy as housing did during the 2008 financial crisis but there are “isolated pockets that can lead to contagion risk.”
Two early warnings of the danger that rising interest rates pose to commercial real estate came last month. Giant landlord Columbia Property Trust defaulted on $1.7 billion in floating-rate loans tied to seven buildings in New York, San Francisco, Boston and Jersey City, N.J. That followed a default by giant money manager Brookfield Asset Management on more than $750 million in debt backing two 52-story towers in Los Angeles.
Forced sales of more trophy buildings at large discounts are expected in the coming years as owners struggle to refinance at affordable rates. “Sellers will want the price that everyone was getting [back] in December 2021, and buyers are kind of even afraid to buy something right now cause they don’t even know what the price of these buildings are,” Snyder said.
Banks were already squeezing terms on commercial real estate loans before this month’s chaos. According to the Federal Reserve’s latest senior loan officer opinion survey, nearly 60 percent of banks reported tighter lending standards in January for nonresidential and multifamily property loans.
“Bank lending standards had already tightened significantly over the last few quarters to levels previously unseen outside of recessions, presumably because many bank risk divisions shared the recession fears that have been widespread in financial markets,” according to a note last week from Goldman Sachs. More tightening of lending standards expected as a result of new bank stresses could slow economic growth this year, Goldman said.
Fed chair Jerome Powell agreed with that view at a Wednesday press conference following the announcement of another rate hike. He said he also anticipates a tightening of credit conditions as banks pull back, which will help cool the economy. “We’re thinking about that as effectively doing the same things that rate hikes do,” he said.
But he said regional banks with high amounts of commercial estate loans were not likely to become the next Silicon Valley Bank.
“We’re well aware of the concentrations people have in commercial real estate,” he said. “I really don’t think it’s comparable to this. The banking system is strong. It is sound. It is resilient. It’s well-capitalized.”
The larger commercial real estate world is still absorbing the shock of the Fed’s aggressive campaign, according to Marcus & Millichap CEO Hessam Nadji. The effects may not pose a systemic risk, he added, but they will add to the industry’s many challenges.
“Commercial real estate has been through a pandemic, very rapid recovery, then massive tightening of financial conditions unlike anything we’ve seen in modern history,” he told Yahoo Finance Thursday. “The last three years have moved the industry through a significant rollercoaster.”
Dani Romero is a reporter for Yahoo Finance. Follow her on Twitter @daniromerotv
The real estate market is rallying but why?
A few weeks back, I went out on a limb and said that all signs were pointing to the fact the real estate market was waking back up again.
Buyers were showing a willingness to come in off the sidelines, I said. Could it be that they think the worst is now over?
No, no. Hopium be damned — the real estate market is alive again.
By Wednesday of last week — the first days post-March break, which is unofficially the start of the spring market — I personally witnessed four midtown houses go within hours of being listed.
Could it be that people are feeling optimistic?
Clearly consumer sentiment has improved. Though if a year ago someone had told me there could be excitement at seeing rates creep just below 5%, I would have told them to give their head a shake.
But those rates have clearly started to normalize.
Assisted by the fact that markets are evidently now considering the banking meltdown south of the border may serve to bring about the great pivot sooner than late-2024 as consensus had previously thought.
Even the permabears seem to acknowledge we are witnessing a rally of sorts.
But this appears to be more than that. This seems to also relate to a belief that the worst is now over and while it has certainly been bumpy, better days lie ahead.
But why is that?
New York Fed board member warns of commercial real-estate risks
NEW YORK, March 24 (Reuters) – An executive who also serves on the board overseeing the New York Federal Reserve warned on Twitter of potentially systemic problems in the real estate finance market and called on the industry to work with authorities to avoid things getting out of hand.
Noting there is $1.5 trillion in commercial real estate debt set to mature in the next three years, Scott Rechler, who is CEO of RXR, a large property manager and developer, tweeted: “The bulk of this debt was financed when base interest rates were near zero. This debt needs to be refinanced in an environment where rates are higher, values are lower, & in a market with less liquidity.”
Rechler said he’s joined with the Real Estate Roundtable “in calling for a program that provides lenders the leeway and the flexibility from regulators to work with borrowers to develop responsible, constructive refinancing plans.”
“If we fail to act, we risk a systemic crisis with our banking system & particularly the regional banks” which make up over three quarters of real estate lending, which will in turn put pressure on local governments that depend on property taxes to fund their operations, Rechler wrote.
The executive weighed in amid broad concern in markets that aggressive Fed rate hikes aimed at lowering high inflation will also break something in the financial sector, as collateral damage to the core monetary policy mission.
The Fed nearly held off on raising its short-term rate target on Wednesday after the collapse of Silicon Valley Bank and Signature Bank rattled markets. The failure of Silicon Valley Bank was linked to the firm’s trouble in managing its holdings as markets repriced to deal with higher Fed short-term interest rates.
The real-estate sector has also been hard hit by Fed rate rises and commercial real estate has also been hobbled by the shift away from in-office work during the pandemic.
Also weighing in via Twitter, the former leader of the Boston Fed, Eric Rosengren, offered a warning on real estate risks, echoing a long-held concern of his dating back a number of years.
Pointing to big declines in real estate investment indexes, he said “many bank lenders will be pulling back just as leases roll, with high office vacancies and high interest rates. Regional bank shock and troubled offices will be negatively reinforcing.”
Real estate woes are on the Fed’s radar, but leaders believe banks can navigate the challenges.
Speaking at a press conference Wednesday following the Fed’s quarter percentage point rate rise, central bank leader Jerome Powell said “we’re well-aware of the concentrations people have in commercial real estate,” while adding “the banking system is strong, it is sound, it is resilient, it’s well-capitalized,” which he said should limit other financial firms from hitting the trouble that felled SVB.
Rechler serves as what’s called a Class B director on the 12-person panel of private citizens who oversee the New York Fed. That class of director is elected by the private banks of the respective regional Feds to represent the interest of the public. Each of the quasi-private regional Fed banks are also operated under the oversight of the Fed’s Board of Governors in Washington, which is explicitly part of the government.
The boards overseeing each of the regional Fed banks are made up of a mix of bankers, business and non-profit leaders. These boards provide advice in running large organizations and local economic intelligence. Their most visible role is helping regional Fed banks find new presidents, although bankers who serve as directors are by law not part of this process.
Central bank rules say that directors are not involved in bank oversight and regulation activities, which are controlled by the Fed in Washington.
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