Since the Commercial Real Estate Mortgage bubble has begun to pop with the bankruptcy of Capmark that I wrote about yesterday I thought I’d give you some background to the events unfolding before our very eyes beginning now. These mortgages are given by lenders to companies building and operating commercial buildings such as malls, offices, hotels etc. With a declining economy these companies find it increasingly difficult to pay interest on their loans as income from rents keep falling. Consider these statistics from this month of October 2009 reported by facilitiesnet.com:
U.S. Office Vacancy Rates Continue Climb, But Are Slowing
“The office vacancy rate increased, by 60 basis points (bps), to 16.1 percent, at the end of the third quarter. Although this was the eighth consecutive quarter of rising vacancy rates, it was lower than the 80-bps increase in 2Q 2009 and was the slowest pace of increase since 4Q 2008.
The national industrial availability rate increased 50 bps to 13.5 percent in 3Q 2009. This result marks the 8th consecutive quarter of rising availability. The vast majority of industrial markets experienced rising availability, with 56 out of 61 major markets showing increases from the previous quarter.”
Here is an old chart from The Wall Street Journal posted August 31, 2009, (article quoted below in this post):
So we see an increasing level of vacancies in commercial real estate that inevitably lead to an increase in mortgage delinquencies, as reported by GlobeSt.com yesterday October 26, 2009:
US Commercial Mortgage Delinquency Hits 4.7%
“The total delinquency rate for commercial mortgages expanded 60 basis points in the third quarter to 4.7%, according to an early estimate by locally based Applied Analysis.
[…] The commercial mortgage delinquency rate has been rising at an accelerated rate ever since Lehman Brothers’ collapse in September 2008 and the ensuing severe credit crunch and economic downturn. While more than double the commercial mortgage delinquency rate from the same year-earlier period, the 4.7% delinquency rate is still well below the 8% rate in the third quarter of 2001. However, given a weak economy, severely constrained credit availability and a high volume of commercial mortgages coming due during the next several years, Applied Analysis principal Mathew Anderson calls the increasing delinquency rate “worrisome.”
[…] The delinquency rate in construction lending, including both residential and commercial, jumped 190 basis points in the third quarter to 18.2%.
[…] Residential mortgage delinquencies rose 80 basis points in the third quarter to 11%. Aside from an approximately 200 basis point increase in the final three months of 2008, the delinquency rate has been rising by approximately 100 basis points per quarter since the first quarter of 2008. One year ago the rate was 6.4%.
‘We have been expecting the rate of increase to slow, but clearly this has not yet occurred.’“
So, what is the scope of this bubble? The Wall Street Journal wrote on August 31, 2009, that the size of loans outstanding by banks are at least 1,7 trillion USD. Yes, trillions, that’s more than double the official size of the TARP-bailout money:
Commercial Real Estate Lurks as Next Potential Mortgage Crisis
“Their efforts could be undermined by a surge in foreclosures of commercial property carrying mortgages that were packaged and sold by Wall Street as bonds. Similar mortgage-backed securities created out of home loans played a big role in undoing that sector and triggering the global economic recession. Now the $700 billion of commercial-mortgage-backed securities outstanding are being tested for the first time by a massive downturn, and the outcome so far hasn’t been pretty.
The CMBS sector is suffering two kinds of pain, which, according to credit rater Realpoint LLC, sent its delinquency rate to 3.14% in July, more than six times the level a year earlier. One is simply the result of bad underwriting.
[…] The other kind of hurt is coming from the inability of property owners to refinance loans bundled into CMBS when these loans mature.
[…] CMBS, of course, aren’t the only kind of commercial-real-estate debt suffering higher defaults. Banks hold $1.7 trillion of commercial mortgages and construction loans, and delinquencies on this debt already have played a role in the increase in bank failures this year.”
With a follow-up the day after the same reporter, Lingling Wei, adds:
Commercial Real Estate’s $1 Trillion Time Bomb
“In contrast to home loans – the majority of which were made by only 10 or so giant institutions – thousands of small and regional banks loaded up on commercial property debt. As a result, commercial real estate troubles would be even more widespread among the financial system than the housing woes. At the present, more than 3,000 banks and savings institutions have more than 300% of their risk-based capital in commercial real-estate loans.”
So, a delinquency rate of 4,7% amounts to at least 100+ billion dollars. The big question will be if the Obama Administration decides to bail these troubled banks out, or let them fail as they let Lehman Brothers. If they bail them out, we will se a new TARP-type program expanding the Quantitative Easing program of the Federal Reserve even more. To give you an idea of what is coming, take a look at this chart supplied by Chris Mayer at The Daily Reckoning:
So add the Commercial Real Estate Mortgages of at least 1,7 trillion to the middle of the chart at the we-are-here-sign and to the right hand half and you begin to get the picture. Now consider the vast amounts of derivatives based on these failing mortgages (not included in the chart above!) and add some more trillions.
Expansion in the supply of money (printing money) faster than growth in the economy will inevitably lead to inflation:
When Will Inflation Really Hit Us?
“The reason for expecting price inflation is the recent, rapid growth in the money supply and the deficit-driven likelihood that more such growth is coming.
As of July, the M1 money supply (currency held by the public plus checking deposits) had grown 17.5% in a year’s time. That’s not just unusually rapid, it’s extraordinarily rapid. Since 1959, M1 has grown more rapidly in only one other 12-month period – and that was the one ending last June, when the M1 money supply jumped 18.4%. Even in the inflation-plagued 1970s, growth in M1 never exceeded 10% in any 12 months.
Dropping large chunks of newly created money into the economy leads to price inflation, because the recipients are likely to find themselves overprovisioned with cash.”
Source: Financial Sense, October 23, 2009
The author concludes as I have here in this blog:
For at least the next year, the simple, fire-and-forget strategy is 50-50 gold and cash – gold for what looks to be inevitable but on its own schedule, cash to be ready for the bargains that may show up while we’re waiting for the inevitable to arrive.
