“You can’t raise rates this quickly and not expect a financial shock. We’re already working on transactions at 50pc on the dollar: the equity is wiped out and half of the loan is wiped out,” he said.
Prof Piskorski’s paper says implicit office values have fallen by 50pc on average from their peak, and 45pc of all office loans are currently in negative equity. Most indexes register a smaller drop in prices but they track prime sites, lag the market, and do not capture “junk” buildings.
The typical office loan carries a “legacy” interest rate of 3.97pc. The going rate today is 7.42pc, if you can borrow. Bank boards and regulators have forced lenders to cut exposure. Developers are shut out of the credit system once loan-to-value ratios rise above 80pc.
“Default rates could potentially reach levels comparable to or even surpassing those seen during the Great Recession,” said the paper, published by the National Bureau of Economic Research.
There has been no repeat of the lightning-fast bank runs that brought down Silicon Valley Bank, First Republic, and two smaller lenders last March, with contagion toppling Credit Suisse in Europe. But that is because liquidity support has allowed lenders to “extend and pretend”.
The NBER paper said banks have $2.7 trillion of total exposure to commercial property. Almost 70pc is concentrated among small and mid-sized regional lenders. Most have burned through their safety buffers. Moody’s says exposure among regional banks with assets below $250bn is 180pc of their capital.
The full threat to the financial system is larger because some 2,000 banks are already facing “negative capitalisation” due to the broader interest rate shock and paper losses on bonds. Any further stress in commercial property could push another tier of lenders over the edge.
