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Morgan Stanley analysts expect a worse scenario for commercial real estate than during the Great Depression

David Boulder
11. 4. 2023
5 min read

A big topic of late has been nervousness in the banking sector. But analysts at Morgan Stanley see another problem that they believe could create a scenario worse than the Great Depression.

Investors and economists are raising their voices about potential problems in the commercial real estate market that could have far-reaching consequences for the global economy. In recent years, telecommuting has caused rising office vacancy rates and declining property values. This trend continues, and experts fear it could lead to widespread financial difficulties affecting landlords, bankers, the business community, private investors and owners of the underlying securities.

Lisa Shalett, head of investment strategy at Morgan Stanley Wealth Management, said there is a "huge bottleneck" in the commercial real estate market. More than 50% of the total $2.9 trillion in commercial mortgages will have to be renegotiated in the next 24 months. It is expected that interest rates could rise by 350 to 450 basis points.

In the last cycle, regional banks were the primary source of new loan originations, originating 70% to 80% of all loans. Office real estate is facing secular headwinds from telecommuting, which has caused vacancy rates to hover near 20-year highs. Analysts predict commercial real estate prices will fall as much as 40% from peak to trough, worse than during the Great Financial Crisis.

The Federal Reserve has already raised interest rates, which has led to tighter lending standards in the commercial real estate market. This tightening could lead to a banking crisis that would exacerbate the liquidity shortage and increase the risk of defaults, distress and delinquencies.

The technology and consumer sectors are not immune to problems in the commercial real estate market. While these sectors have experienced growth in recent years, they may also be affected by a crisis in the commercial real estate market. For example, a decline in demand for office space may impact technology companies that rely on office rentals for their employees. Similarly, consumer sectors such as retail and hospitality may be negatively affected by store closures and reduced customer footfall.

A soft landing for the economy is still possible, but the likelihood of this scenario is decreasing in light of tighter lending standards and increasing risk in the commercial real estate market. Investors and economists are therefore urging caution and preparedness for the potential effects of the crisis.

Elon Musk, Tesla's CEO, recently called the state of the commercial real estate debt market "by far the most serious looming problem." His warning points out that this problem could have far-reaching consequences for the economy if not properly addressed.

How to address this situation?

Based on current developments in the commercial real estate market, governments, central banks and regulators should monitor the situation closely and take the necessary measures to prevent a potential crisis. Possible solutions include further regulating the market, encouraging loan restructuring and stimulating investment in infrastructure and innovation to help absorb the excess stock of commercial real estate.

Diversifying the economy and encouraging new job opportunities outside the traditional office environment may also help mitigate the effects of the crisis on the commercial real estate market. A shift to a more sustainable economic model could support the growth of new sectors such as green energy and green technologies that could create new opportunities for real estate investment.

In conclusion, the current situation in the commercial real estate market is worrying and requires attention and careful management by economists, investors and policy makers. An important step is to keep the public informed about the risks and challenges posed by the sector and to take measures that could mitigate the impact of the crisis on the global economy.

Cooperation between the public and private sectors will also be key to addressing the problems in the commercial real estate market. Creating partnerships between governments, banks, investors and the business community could help identify and implement innovative solutions to stimulate the market and prevent its collapse.

One potential solution could be the use of vacant commercial real estate for new purposes such as shared offices, education centres, cultural spaces or housing. This transformation could not only alleviate the vacancy problem, but also promote community development and contribute to the overall improvement of the urban environment.

It is also important to keep an eye on technological trends that may affect the commercial real estate market. The development of technologies such as 5G, artificial intelligence and the Internet of Things can bring new opportunities for real estate use and value enhancement.

Last but not least, it is important that governments and regulators closely monitor the financial health of banks and other financial institutions that have a substantial stake in the commercial real estate market. Maintaining the stability of the financial sector is key to preventing a broader economic downturn that could be triggered by a crisis in the commercial real estate market.

In conclusion, warnings from economists and investors about potential problems in the commercial real estate market should be taken seriously. It is now up to policymakers, economic experts and stakeholders to monitor the situation closely and take action.

WARNING: I am not a financial advisor, and this material does not serve as a financial or investment recommendation. The content of this material is purely informational.


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