Commercial Real Estate (CRE) Market Plunges into Meltdown as Investors and Lenders Recoil

Investor concerns about recent bank failures led to a nearly 50% drop in First Republic Bank ‘s stock, after the regional bank reported losing $72 billion in deposits this year. Meanwhile, other regional banks exercised caution with their Commercial Real Estate (CRE) lending.

Late on Monday, First Republic announced its earnings, and by the end of trading  on Tuesday, its shares had dropped to $8.10.

First Republic’s Q1 results fell short of already-pessimistic analyst expectations, with nearly all metrics below projections. During the earnings conference, executives declined to field any questions. First Republic Bank has a significant exposure to the Commercial Real Estate.

Analysts had predicted the bank would report roughly $137 billion in deposits, but the actual figure was significantly lower at $104.5 billion. First Republic also disclosed experiencing over $100 billion in withdrawals since December.

Revenue fell by 13% in Q1, and net interest income, which has generally been a bright spot for banks amid rising interest rates, dropped by 19%.
The bank was nevertheless able to surpass predictions for net income thanks to lower-than-anticipated operational costs, although the amount still fell by 33% to $269 million.

Commercial Real Estate (CRE) 
 First Republic Bank
 Old National Bank
Collapse of the Commercial Real Estate (CRE)
CRE Collapse

On Tuesday, BankUnited also announced that it is reducing its exposure to Commercial Real Estate by slowing down new loan originations. The regional bank primarily operates in Florida and New York. CoStar data shows the vacancy rate of the New York office market to be 13%, raising concerns that office buildings are experiencing a loss in value. Thomas Cornish, BankUnited’s chief operating officer, anticipates that many of the bank’s landlords will seek to refinance to counteract the drop in value.

Approximately 9% of the $1.8 billion office loan portfolio of BankUnited has links to properties in Manhattan, while 23% are linked to buildings in the five boroughs of New York City, Long Island, and New Jersey.

Several banks nationwide may encounter a similar situation. Old National Bank, a regional bank based in Evansville, Indiana, holds approximately $12.9 billion in commercial real estate loans in its portfolio. Another regional bank, PacWest had commercial real estate loan portfolio of 10.6 billion dollars. The bank closed down its multifamily lending groups in Q4 2022 to improve its profitability and risk profile, according to a statement released in January. However, maintaining liquidity came at a cost to PacWest. The bank posted a net loss of $1.2 billion for the quarter, with financial results affected by a non-cash goodwill impairment charge of $1.38 billion and branch consolidation costs of $8.5 million. PacWest reported a decline in its loan portfolio after discontinuing several lending activities last year, while Old National Bank said it had no intentions to increase its office lending.

Commercial Real Estate Index
Collapse of the Commercial Real Estate (CRE)
CRE Collapse
Commercial Real Estate Index. Source disciplinefunds

Amid recent banking struggles, the commercial real estate market has become a significant concern, despite being just one segment of the overall real estate market. Similar to the residential space, the problems in the commercial sector stem from inflated prices that are now deflating, with financed reinvestment or new purchases leading to higher interest rates. Unlike residential space, the commercial market is experiencing an oversupply of space due to remote work policies prompted by the COVID-19 pandemic.

Last Thursday, Blackstone Inc. announced a 36% drop in first-quarter distributable earnings compared to the same period last year. The company attributed this contraction to a weak commercial real estate market

According to Morgan Stanley, $1.5 trillion in commercial real estate debt will become due over the next three years, with a sizable part unlikely to be rolled over, potentially causing a 40% decline in price. With 67% of these loans held by regional banks, this might be much worse than the financial crisis of 2008, increasing the danger for smaller financial institutions.


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