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Cop 021110 Report

Cop 021110 Report

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Published by David Bodamer
The Congressional Oversight Panel's doc on the state of Commercial Real Estate.
The Congressional Oversight Panel's doc on the state of Commercial Real Estate.

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Published by: David Bodamer on Feb 11, 2010
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10/23/2011

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Congressional Oversight Panel
FEBRUARYOVERSIGHT REPORT
*
 
February 10,2010
*
Submitted under Section 125(b)(1) of Title 1 of the Emergency EconomicStabilization Act of 2008, Pub. L. No. 110-343
 
Commercial Real Estate Losses and the Risk toFinancial Stability
 
 
 
1
Table of Contents
 
Executive Summary .............................................................................................................2Section One: February Report .............................................................................................5A. Introduction ..............................................................................................................5B. What is Commercial Real Estate?............................................................................7C. History of Commercial Real Estate Concerns .......................................................16D. Present Condition of Commercial Real Estate.......................................................27E. Scope of the Commercial Real Estate Markets ......................................................35F. Risks .......................................................................................................................61G. Bank Capital; Financial and Regulatory Accounting Issues; CounterpartyIssues; and Workouts .............................................................................................80H. Regulatory Guidance, the Stress Tests, and EESA ..............................................103I. The TARP ............................................................................................................121J. Conclusion ...........................................................................................................137Annex I: The Commercial Real Estate Boom and Bust of the 1980s ..............................139Section Two: Update on Warrants …………………………………………………… 148Section Three: Additional Views .....................................................................................156Section Four: Correspondence with Treasury Update .....................................................160Section Five: TARP Updates Since Last Report .............................................................161Section Six: Oversight Activities .....................................................................................180Section Seven: About the Congressional Oversight Panel ..............................................181Appendices:APPENDIX I: LETTER FROM SECRETARY TIMOTHY GEITHNER TOCHAIR ELIZABETH WARREN, RE: PANEL QUESTIONS FOR CITGROUP UNDER CPP, DATED JANUARY 13, 2010 .............................................183
 
 
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Executive Summary
*
 
Over the next few years, a wave of commercial real estate loan failures could threatenAmerica‘s already-weakened financial system. The Congressional Oversight Panel is deeplyconcerned that commercial loan losses could jeopardize the stability of many banks, particularlythe nation‘s mid-size and smaller banks, and that as the damage spreads beyond individual banksthat it will contribute to prolonged weakness throughout the economy.Commercial real estate loans are taken out by developers to purchase, build, and maintain properties such as shopping centers, offices, hotels, and apartments. These loans have terms of three to ten years, but the monthly payments are not scheduled to repay the loan in that period.At the end of the initial term, the entire remaining balance of the loan comes due, and the borrower must take out a new loan to finance its continued ownership of the property. Banksand other commercial property lenders bear two primary risks: (1) a borrower may not be able to pay interest and principal during the loan's term, and (2) a borrower may not be able to getrefinancing when the loan term ends. In either case, the loan will default and the property willface foreclosure.The problems facing commercial real estate have no single cause. The loans most likelyto fail were made at the height of the real estate bubble when commercial real estate values had been driven above sustainable levels and loans; many were made carelessly in a rush for profit.Other loans were potentially sound when made but the severe recession has translated into fewer retail customers, less frequent vacations, decreased demand for office space, and a weaker apartment market, all increasing the likelihood of default on commercial real estate loans. Even borrowers who own profitable properties may be unable to refinance their loans as they facetightened underwriting standards, increased demands for additional investment by borrowers,and restricted credit.Between 2010 and 2014, about $1.4 trillion in commercial real estate loans will reach theend of their terms. Nearly half are at present ―underwate
r‖
– that is, the borrower owes morethan the underlying property is currently worth. Commercial property values have fallen morethan 40 percent since the beginning of 2007. Increased vacancy rates, which now range fromeight percent for multifamily housing to 18 percent for office buildings, and falling rents, whichhave declined 40 percent for office space and 33 percent for retail space, have exerted a powerfuldownward pressure on the value of commercial properties.The largest commercial real estate loan losses are projected for 2011 and beyond; lossesat banks alone could range as high as $200-$300 billion. The stress tests conducted last year for 
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The Panel adopted this report with a 5-0 vote on February 10, 2010.

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