Commercial Property Losses Hammer Banks on Three Continents

Investors have wondered when the pain from the downturn in commercial property would hit banks. The past 24 hours showed it is happening right now, with lenders on three continents disclosing damage and two bank leaders resigning.

Tokyo-based Aozora Bank shares fell more than 20% on Thursday, the maximum allowed on a single day under stock market rules, after it said losses in its U.S. office-loan portfolio will likely lead to a net loss for the year ending in March. It would be its first annual loss in 15 years. Its president will step down on April 1, the bank said.

In Switzerland, the private bank Julius Baer said Chief Executive Philipp Rickenbacher resigned after the company took a roughly $700 million provision on loans it said it may not get back from the Austrian property landlord Signa Group. The group said it would shut down the unit that made the loans.

The setbacks overseas came after New York Community Bancorp, which took over assets of failed Signature Bank last year, reported surging loan losses, including from an office building. Its shares plunged 38% on Wednesday.

What ties them together: Banks are big lenders to real-estate owners and developers, putting them on the front line of the downturn in office building use and falling valuations.

The risks are particularly acute for small and regional lenders, which have far higher chunks of their loan portfolios in commercial real estate than big banks.

Pain has been slow to unfold. While changes in office habits that have hollowed out downtowns are nearly four years old and rates began rising over two years ago, landlords have been cushioned by rent from tenants on long-term leases that have been gradually burning off.

Also on Thursday, Deutsche Bank said it increased loss provisions in its U.S. commercial loan book nearly fivefold from 2022’s fourth quarter to 123 million euros, equivalent to $133 million.

In all, more than $2.2 trillion of U.S. commercial property loans are set to come due by 2027, according to the data tracker Trepp. Many banks have given short extensions to loans that were due to expire over the past two years, putting the day of reckoning off to the future.

"The commercial real-estate pain in the office sector is just starting,” Anne Walsh, the chief investment officer of Guggenheim Partners Investment Management, said last month at the World Economic Forum in Davos, Switzerland.

She said small and midsize lenders especially face substantial numbers of loans to office landlords that refinance in the next 24 months, and likened the situation to a “rolling recession” for banks that could drag on for some time.

Some of the biggest risks come at the maturity of loans, which tend to run five-to-10 years in term. As cheap loans from an era of low rates and high prices come due, landlords are increasingly unable to find new loans to replace them.

The warnings revived fears that troubles in the banking sector could resume after last March’s banking crisis, though many investors remain sanguine that most banks have ample reserves to absorb losses. Falling interest rates could also help provide relief among stressed borrowers.

Regulators have been watching carefully, and worry about the prospects for further contagion into the financial sector, particularly if there were a significant recession.

The International Monetary Fund warned in an October global financial stability report of an outside chance that global commercial property prices could fall significantly further this year, “potentially creating a vicious cycle of tighter funding conditions, falling CRE prices, and bank losses, with broader implications for macrofinancial stability.”

The Aozora loss highlights the fear that the impact from elevated borrowing costs have yet to fully percolate through the system. It also shows how stress in one part of the globe can ripple broadly.

The bank, a medium-size lender, isn’t considered a systemic player in Japan. It has assets of around $55 billion, which by comparison is around the size of the 40th largest bank in the U.S. But it is not alone in having exposure to the U.S. market.

Japanese financial firms have increased investments in U.S. commercial real estate in recent years to diversify their portfolios. Aozora said the office loans are mostly in large cities such as Chicago and Los Angeles, and make up 6.6% of its total loans. It has a $1.89 billion U.S. office-loan portfolio.

The problems at Julius Baer, a specialist in managing money for the ultra rich, is another black mark on Switzerland’s reputation, less than a year after the demise of Credit Suisse. Julius Baer was meant to benefit from its rival’s stumbles, but instead found itself in hot water over loans to an Austrian real-estate developer with a troubled legal past.

The loans were tied to companies controlled by the mogul Rene Benko, who was convicted more than a decade ago on tax fraud charges before making a comeback. Signa, based in Innsbruck, Austria, owns a stake in Manhattan’s Chrysler Building in addition to landmark, city-center properties in Germany, Austria and Switzerland.

A cluster of Signa-owned companies and projects entered insolvency proceedings beginning in October after the group couldn’t raise fresh financing. The move spread financial losses across more than a dozen banks and insurers who were its big lenders.

Despite the bad loans to Signa, Julius Baer still made a net profit for 2023. Its shares rose Thursday after fully provisioning for the Signa loans. The bank said it hoped to recover some of the loan amount. It had earlier flagged the loans as problematic.

NYCB said it set aside $552 million for future potential loan losses, largely from commercial property, up from $62 million in the third quarter. It posted a fourth-quarter loss and slashed its dividend.

One office loan being charged off went bad after an updated valuation in the third quarter, NYCB said. It said it is also grappling with the regulatory demands of having gotten larger when it bought Signature’s assets last year, putting it above a $100 billion threshold requiring stricter capital and liquidity standards.