It’ll be worse than the dot-com crisis, but not as bad as the financial crisis.
Originally published by Erika Morphy at GlobeSt. on 3/27/23 at this address: https://www.globest.com/2023/03/27/goldman-sachs-quantifies-the-pain-expected-from-tighter-bank-lending/?slreturn=20230227172425#:~:text=Goldman%20Sachs%20describes%20it%20this,their%20lending%20considerably%20in%202022.
With the US banking system in a state of unease, there is one certainty the commercial real estate market can count on: lending to the community will tighten even further.
Commercial property loans are now perceived as a significant source of bank risk, particularly for the smaller banks that made loans to office borrowers—loans that are now imperiled by declining valuations, half-empty buildings and an ongoing remote work trend. It is not hard to imagine banks pulling back even further than they have from commercial real estate, either due to fear of further exposure to the asset class or worries about regulators scrutinizing their balance sheets for risky loans.
“Credit availability to CRE borrowers was already challenged coming into this year,” JPMorgan securitization analyst Chong Sin said in a note to investors according to the Financial Times. He warned that if smaller banks were to retreat it could create a “a credit crunch in secondary and tertiary CRE markets”.
So it will likely be bad, but exactly how bad?
Goldman Sachs describes it this way: “Lending standards will tighten more, to a degree that’s greater than during the dot-com crisis, but less than during the financial crisis or the height of the pandemic.”
There is one upside to the seemingly grim situation: banks already tightened their lending considerably in 2022. They do not have much more room to tighten, Goldman Sachs said.
“This is important because it means that lending standards started at a tight rather than a normal level, and as a result the incremental impact of a further tightening brought on by recent small bank stress might be more limited than it seems at first,” it said.
Last year, according to the Federal Reserve’s survey of senior loan officers in the fourth quarter, a net 53% were tightening standards for commercial mortgages, MSCI reports in its recent Capital Trends report. “Back at the end of 2021 this figure stood at a net 9% loosening standards,” it said. “For apartment lending, this figure swung from 21% loosening standards on a net basis at the end of 2021 up to 40% tightening by the end of 2022.”
The tightening continued this year, MSCI noted. “Into the first quarter of 2023, lenders tightened underwriting standards on a net basis at 58% for commercial and 57% for apartment lending.”
But even taking the already-tight lending conditions into account, any further tightening will have an impact on commercial real estate. Goldman Sachs estimates that commercial bank lenders with less than $250 billion in assets account for roughly 80% of commercial real estate lending. “Our economists’ analysis implies that the incremental tightening in lending standards that they expect from small bank stress would have the same impact on growth as roughly 25-50 basis points of rate hikes would have via their impact on market-based financial conditions,” Goldman Sachs said.