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CRE loan exposure appears well managed

No two corrections are alike
Cracks here and there, but not prevalent

Hold your breath and carry on!

If you expect rain, bring an umbrella. Most of us have experienced getting soaked and promised ourselves to bring a rain cover next time. Commercial real estate may be one of those asset classes where you should always expect rain, at some point. It seems that most CRE lenders have come well prepared for the current economic weather conditions. Let’s see what the chances for rain are and who’s left without sufficient protection.

Our barometer is not a very precise instrument, but its clear that the ECB measures to raise interest rates have not hurt too many CRE lenders thus far. With the 2008 financial crisis still fresh in mind, lenders have been much more diligent, limiting exposure, concentrations and most of all loan-to-value. Lenders have steered their underwriting primarily on affordability and we've seen many lenders increase DSCR last year from 1.1x to 1.25x or higher.

Perhaps the cracks are most visible in the property development space, where (pre) development lenders are active. Land values have come under pressure and some developers appear to be in trouble. 

Away from residential property, most exposed to higher interest rates could be prime commercial property and logistics in particular. This sector may underperform for that reason. Tthe gross yields were tightest in these asset classes and low interest rates were an often used tool to increase investor returns. But is it over-leveraged? We suspect that most lenders have displayed a fair amount of discipline in this space and may benefit from inflation-linked rent increases. Through the cycle, the CRE space is usually most exposed in the sub-prime space where occupancy and building specs play a crucial role in valuations during downturns. 

How different is it in the United States, where CRE lenders are reducing exposure by selling loans even if they are performing. With lackluster demand the the U.S. CMBS market many banks are keen to avoid investor or regulator scrutiny, particularly in the wake of the fall of SVB. 

But no two corrections are alike. The Jury is still out on whether the small cracks will cause the CRE market to break. It will be interesting to size the opportunity in the months to come.

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