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Generational Dynamics Web Log for 9-Jul-2010
9-Jul-10 News -- Banks use 'Extend and Pretend' with commercial property

Web Log - July, 2010

9-Jul-10 News -- Banks use 'Extend and Pretend' with commercial property

US Navy deploys submarine super-weapon near Chinese waters

How banks have used 'extend and pretend' to avoid a commercial real estate collapse

Top: Commercial RE sales, 2001-2009. Middle: Maturity dates, 2000-2020. Bottom: Percentage of loans 30 days or more past due. <font size=-2>(Source: Business Insider, WSJ)</font>

Top: Commercial RE sales, 2001-2009. Middle: Maturity dates, 2000-2020. Bottom: Percentage of loans 30 days or more past due. (Source: Business Insider, WSJ)

One of the mysteries of the last few years is the question of why the commercial real estate market hasn't collapsed the way the residential real estate market has.

The answer to the mystery is an industry phrase, "extend and pretend." Instead of foreclosing on delinquent properties, banks are simply extending or modifying maturing loans, hoping that the borrower will eventually be able to repay the modified loan. As regular readers of this web site are aware, what they're hoping for is that the massive real estate and credit bubbles of a few years ago can be reflated, which is impossible.

The three graphs to the right show what's really going on.

The top graph shows the bubble in commercial real estate transaction, which peaked in October 2007, and has been crashing ever since. It's almost incredible that any competent individual could possibly believe that this bubble could be reflated.

During the bubble years, underwriting standards were thrown out the window, according to Business Insider. Nearly 90% of the loans were either interest-only or partial interest (negative amortization), with small down payments. The assumption was the same as in all bubbles -- that it would keep growing forever, and all loans would be easily repaid.

The second graph shows that the end is nowhere in sight. The commercial loans made during the bubble are still maturing, and maturities won't even peak until 2013.

The third graph shows that the delinquency rate has been surging since the bubble burst. In the first quarter of 2010, 9.1% of commercial property loans held by banks were delinquent, compared with 1.5% in the first quarter of 2007, according to the WSJ (Access).

About 2/3 of bank commercial real estate loans maturing between now and 2014 are underwater (worth less than the amount of mortgage loan). Values have fallen so fast that US commercial real estate values are 42% below their October 2007 peak.

The situation with commercial real estate is parallel to residential real estate in the following way: Banks and lenders are using accounting tricks to maintain the real estate bubble as long as possible and keep bubble assets on their balance sheets. In "normal" times, these tricks would be considered illegal, but not today. (See "'Shadow inventory' of unsold homes continues to grow.")

History tells us that these tricks will only work for so long. All it will take is the right trigger, and all these commercial and residential properties will start to come onto the market in a panic. From the point of view of Generational Dynamics, that's exactly what must happen.

Additional links

The US Navy has been sending China a message by deploying near Chinese waters a submarine super-weapon armed with 154 Tomahawk cruise missiles. Time

The compliant labor force of China in the 1990s is disappearing, as the younger generation begins to show its teeth. FT (Access)

China and the United States agreed on a watered-down draft statement that doesn't directly blame North Korea for the attack on the South Korean warship Cheonan. The UN Security council will vote on the watered down statement on Friday. Washington Post

The bitter and growing dispute between Sri Lanka and the United Nations, triggered by Ban Ki-Moon's decision to appoint an international panel to determine if Sri Lanka committed war crimes during the civil war, reached a turning point on Thursday as the U.N. recalled its Sri Lanka envoy and closed the U.N. office in Colombo, the capital of Sri Lanka. VOA

Why men are attracted to women with small feet. New Scientist (Insert your favorite Fats Waller story here.)

The price for brides in Ingushetia has more than tripled. The minimum price for a bride has gone from $400 to $1,300. Moscow Times. I assume that this could only be happening if there's a shortage of young women or too many young men.

(Comments: For reader comments, questions and discussion, see the 9-Jul-10 News -- Banks use 'Extend and Pretend' with commercial property thread of the Generational Dynamics forum. Comments may be posted anonymously.) (9-Jul-2010) Permanent Link
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Generational Dynamics Web Log for 9-Jul-2010 9-Jul-10 News -- Banks use 'Extend and Pretend' with commercial property

How banks have used 'extend and pretend' to avoid a commercial real estate collapse

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Generational Dynamics Web Log for 9-Jul-2010
9-Jul-10 News -- Banks use 'Extend and Pretend' with commercial property