Distressed Real Estate Doubles But It's Still Not Enough for a Buying Spree

The good news for distress investors: big banks see non-performing commercial real estate debt on their books double, according to Green Street Advisors.

The bad news: that’s still not enough to signal bargains to go around for buyers.

Non-performing CRE debt was 0.86% of the balance sheets of the 325 largest US banks at the end of 2020, according to regulatory data that Green Street got from Trepp Bank Navigator. That was up from 0.41% the previous year but still below the 1% figure set in 2015 and far under the 8.6% from 2010.

Of the top five, Wells Fargo led the pack with $1.53 billion in non-performing loans, from $544 billion the year before. Following were J.P. Morgan, which had $971 million; M&T Bank with $938.4 million; Goldman Sachs, $677 million; and Bank of America, $544 million.

That translates into only $15.4 billion in non-performing loans on the books with another $2.1 billion in foreclosed properties. But Beal Financial, a Texas-based bank owns about fifth of that by itself, at $429.5 million.

Why so little bad debt/? Green Street echoes what many others have told GlobeSt.com. Government bailout programs have played an important role in keeping many businesses alive and landlords from going under. Federal encouragement of forbearances, extensions, and other accommodative tactics became a reason for banks to avoid listing as many loans as non-performing. 

Banks also took measures in advance in the aftermath of the global financial crisis of 2008. Since then, banks have focused on lower-leveraged loans and kept higher reserves to keep themselves safe.

Bank of America, Citigroup, J.P. Morgan and Wells Fargo together have used a combined $33.3 billion in capital to cover potential losses. Some of the banks have already reduced some of their reserves by a total of $9.1 billion.

The lack of distressed inventory at this point shouldn’t be surprising. Signals coming into 2021 haven’t been welcoming for those who want to pick up distressed inventory. Opportunities have been sparse and the pace at which inventory has come on the market at a big discount is slow. BlackRock said not to expect multifamily distress prices in the near future.

That’s hindsight. Coming into this year, as Green Street notes, investors and funds had raised billions to pour into opportunistic buying of distressed assets. There was far more money than properties ready to be snatched, particularly as other investments, like stocks, have become historically pricey and investors have wanted to find yield elsewhere. The results have been disappointing for would-be buyers.

“They’re getting 10 to 18% discounted market values compared to 2018 and 2019 rather than what distress investors wanted of 30%,” Pranav Bhakta, managing director of yield-focused private equity real estate fund Revelo, tells GlobeSt.com.

When the government help tapers off, more distressed properties will come on the market. But given the large amount of waiting capital, prices won’t be the steepest discount levels and returns will be lower.

However, that’s for now. In the medium term, given reduction in office space needs, rents may drop, and with them asset values.