Is Fed Abandoning Bailout Of Commercial Real Estate

Tyler Durden's picture

In what could have been the biggest piece of news today, yet making little headway into the media, the Fed announced that it is adopting a policy statement supporting "prudent commercial real estate loan workouts." And even though in traditional Fed fashion, the statement says a lot but is even more vague, some of the implications from a more nuanced read have very serious adverse implications for commercial real estate. The section:

Financial institutions that implement prudent loan workout arrangements
after performing comprehensive reviews of borrowers' financial
conditions will not be subject to criticism for engaging in these
efforts, even if the restructured loans have weaknesses that result in
adverse credit classifications. In addition, performing loans,
including those renewed or restructured on reasonable modified terms,
made to creditworthy borrowers, will not be subject to adverse
classification solely because the value of the underlying collateral

seems to imply that the Fed is now encouraging active loan workouts as a matter of policy. The other implication is that firms with CRE exposure can no longer rely on the Fed as a perpetual guarantor of risky exposure. Not only that, but in adopting a new policy strategy, the Fed is acknowledging the major problem that CRE writedowns will represent for banks, yet is telling banks to resolve problems on their own, while subsequently they will "not be subject to criticism for engaging in these

The implications of this Fed action for the economy could be staggering as the $3.5 b,quadr,trillion CRE market will likely not receive the same largesse that residential real estate has been the recipient of ever since the conservatorship of the GSEs. And the biggest loser in all of this will be banks that still have not used the massive risk rally to offload whole loan and CMBS CRE holdings, and moreover, still have these marked at par or close thereby.

As Wilbur Ross and George Soros pointed out earlier, the trouble for CRE is just starting. If the Fed is unwilling to recreate QE for CRE, in the same way that it continues to bail out residential exposure, then look for a major double dip in the economy. The only wild card is why the Fed is letting this happen, although if the political backlash against just QE 1 is any indication, then it likely would not have been able to pass additional liquidity measures regardless.

Full Fed policy statement can be found here.

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Anonymous's picture

about time the Fed stepped away from controlling something

mberry8870's picture

I disagree with the assessment. They are suggesting a conspiracy of collusion with the banks.

Anonymous's picture

this why REITs rallied hard in last hour of trading eh?

Marge N Call's picture

Yeah, what the fuck was that about? The chart is unreal in the last 20 minutes.

rostholder's picture

What I read from this statement is that financial institutions who have exposure to real estate will be allowed to extend loans regardless of value so long as the "terms" are reasonable with respect to coverage ratios (ie. NOI / debt service > 1.0x).  What this allows banks to do is to extend loans which may be otherwise at a loan-to-value greater than 100% without any fear of negative issues from the OCC or other banking regulator.  Apparently "extend and pretend" is now a government policy.  

Anonymous's picture

Ya I think it leans that way too...the only good thing is it seems to put the onus on the banks to extend and pretend, instead of getting a bailout and dumping the losses to the taxpayers immediately.

mberry8870's picture

Exactly. There is no way politically they can start this crap (TARP II) for CRE. The Fed is saying if you doctor the books (have under collateralized real estate loans that will be completely mismarked) we are not going to go after you. In my mind I view this as collusive. This is going to be very, very ugly for the longs.

Green Sharts's picture

That's also how I read it.  As long as the owner can pay interest, even at a reduced rate, a loan on a property that was 80% LTV and is now 130% LTV does not have to be written down on the balance sheet and charged against earnings.  So banks with deteriorating commercial loan books who can pull off extend and pretend will be under less pressure from regulators to raise additional capital.

rostholder's picture

Exactly.  What this does is eliminate the need for banks to write down or charge off their real estate assets based on value so long as interest is paid current.  Based on this rule, the banks will not raise new capital or realize marks on their direct holding of real estate loans.  This rule however, has no impact on the value of the real estate of course.   

ZerOhead's picture

"Apparently "extend and pretend" is now a government policy."

Correct... soon to be supplanted by "Don't ask / Don't tell"  no doubt.



Miles Kendig's picture

Which has already been supplanted by don't look don't find. However, since you banks are so scared you have violated the don't ask, don't tell policy we will let everyone know that if you do your job and paper these monsters appropriately the fed will have your back.

Besides, the fed needs to limit the need for currency swaps and doing this will help.  For a time...

deadhead's picture

for the regionals, this means that they will extend just about anything and the prudent underwriting will go by the wayside, kicking the can once again.

this will end up costing us via fdic more money.

Assetman's picture

... well unless the OCC and some other regulator comes in and imposes Formal Agreement standards on many of the regionals.

Just because the Fed gives the OK to overlook marking assets and employing underwriting standards, doesn't mean that the OCC/FDIC won't step in.  I'd think in many cases, it makes sense for the FDIC to come in a force better risk management and underwriting before they are faced with even more bailouts.

On the other hand, I think you are spot on-- this will still end up costing the FDIC a boatload of money down the road.

Miles Kendig's picture

Agreed.  I cannot but help thinking the Sheila was sending a message Friday night.

deadhead's picture

I believe you are on the right track here rostholder.

Anonymous's picture

I agree.. this looks very bullish for CRE.

Anonymous's picture

Actually, I think it extends the pain considerably. Look at Japan, they did it and CRE there is still 50% below where it was in 1989.

rostholder's picture

Agreed.  This new policy does nothing to move the problem forward, just keep it where it is - on balance sheets of banks and CRE companies.  It's too bad that the debasement of a fiat currency (isn't that redundant) does nothing to aid in halting asset price/credit deflation.

jm's picture

Not necessarily.  It can reduce the burden of their debt service, but it will do nothing for CRE cashflow. 

Zé Cacetudo's picture

Good! Fuck 'em, let the CRE stuff crash!

Having said that, a look at the late-day reaction of VNQ and IYR might suggest a different interpretation.

waterdog's picture

Looks like when Geithner told them the real debt ceiling number, they balked. I just wish they would get CRE over with and done.

Anonymous's picture

$3.5 billion CRE market? wouldnt that be trillion?

SV's picture

Maybe all the SRS haterz will finally leave the building and let the party start!

Anonymous's picture

I am so in!!!

Screwball's picture

Not sure how all this bookeeping works, but to this dumbass, it sounds like at some point, we will see bank bailout II.

Leo Kolivakis's picture

Basically, more regional banks will go under, power will get more concentrated among the few kingpins.

Anonymous's picture

Isn't it somewhat ironic that we end up at the Swedish Solution by the most convoluted and painful route possible?

Hansel's picture

the $3.5 billion CRE market


ZerOhead's picture

Wishful thinking... hey how many brazillions in a quadrillion?

geopol's picture

3.5 Billion?? Ya Thats one midtown Manhattan skyscraper... 3.5 TRILLION

How about 100,000.00 under performing malls, and that's just the tip of the iceberg.

Davidowwitz and  Associates

Anonymous's picture

I'm so glad they cut down the ungodly trees and vegetation around these parts, and replaced them with empty office space.......

dudley's picture

I read that as a positive step for main street.  If you look at what took place in the 80's most of the "real damage"  took place when bank examiners came in and classified any loans connected with real estate.  I am not saying that there are not major CRE issues but on a local grass roots basis banks were being told to cut their real estate loan portfolios and have been refusing ( at least in my neck of the woods ) to renew loans on small office buildings and shopping centers that are performing but because they are regarded as CRE have caused them to set aside extra reserves.  Any recovery will need to come from the grass roots rather than from the well connected elites who are tied into wall street.  So for my part this means the examiners might start to leave the smaller banks alone for once.

max2205's picture

The Fed is dead.......

Anonymous's picture

No no he's not dead, he's, he's restin'!

Andrei Vyshinsky's picture

The difference comes down to this: The household debt was held by very large institutions, the ones large enough to buy their safety from the political maggots that so eagerly provide it; the commercial debt is held by smaller, regional and local, "we-simply-can't-afford-those-kinds-of-payoffs", banks. I mean who from Goldman Sachs works for say, Charter One, for example? These folks get closed, not bail outs.

mberry8870's picture

That may be true but the way the FDIC works currently is to loss share and transfer assets. And where will they transfer to? The currenlty bailed out TBTF and or the FED. Either is will be a reckoning.

Anonymous's picture

Agree with the analysis that "extend and pretend" is now a federal policy.

BennyBoy's picture

Extend and pretend is our CRE policy.

Until Goldman tells us otherwise.



sysin3's picture

Begs the question:

WTF is the Fed doing sticking its wick into CRE in the first damn place ??

Not their yob, man.

yeah, yeah, I know, we are not in Kansas any more.

Brett in Manhattan's picture

According to Chris Whalen, JPM has a lot of CRE exposure, and, JPM basically "is" the Fed.

Miles Kendig's picture

The fed just added some mass and momentum to the avalanche...

Anonymous's picture

Zo, to all youse Senators out dere, dat want to fk wit the Fed, the Man...dis is wat ya git, capiche?


Anonymous's picture

This will bring a spotlight to the dire shape the banks and CRE is in. We will see CRE implode in the coming weeks. God help us. (Not the bankers)

ghostfaceinvestah's picture

Fannie monthly portfolio.

I am not great at calculus, but I am pretty sure even the second derivative of serious delinquencies got worse (table 9).

Any math majors out there who can help?

Anonymous's picture

On a percentage basis, the 2nd derivative didn't get worse. This charts out at a fairly straight line.

However, on a 2nd derivative basis, August DID get a little bit worse than July.

More importantly, this trend is VERY stable and strong! No slowdown! Delinquencies at 4.45% and growing!

With leverage at 30-50 times, doesn't this indicate insolvancy?

dudley's picture

It has been unfortunate that bank examination decrees from Washington ( up and until now ) have dictated that all main street banks throught out the country should be treated the same so areas where CRE hardly went up in value at all are treated in the same way as areas where it went up several hundred percent.  Main street CRE in Texas, as an example, is much more viable than it is in California but they have been treated as being the same.  This has meant that the smaller banks have been frozen in the headlights and afraid to do anything.  Wall St. has access to all the lending mechanisms.  Main Street is entirely dependent on a thriving loan market from small banks and this is what needs the fix and hopefully this is what the Fed is now doing.