Within the Westminster world there is a growing feeling that the financial crisis is over. Spring has sprung, daffodils are blooming, the stock market has (partially) recovered, unemployment figures are not as bad as expected – etc.
But many analysts are warning that the current recovery is almost entirely down to the actions of central government (QE, low interest rates) which will at some point have to unwind.
There is also the commercial property crash. The price of offices and shops may sound esoteric if not boring – but so did “sub-prime”, once upon a time.
My colleagues at Alphaville have done a great job of highlighting the risk to banks from the sector.
In effect, many mugs bought buildings at the top of the market with just a sliver (5 per cent, 10 per cent) of equity. Now that prices have fallen by 50 per cent – typically – it is the banks who are sitting on potentially vast losses. For now most of these have not been realised but are still sitting on the books. Some bank executives hope that prices could recover before they have to mark the debt to market. The problem comes if and when tenants go bust or cannot pay their rent, prompting defaults and therefore pain for the lenders.
I said this might sound esoteric. But the government is not dismissing its potential to cause pain. In fact a cabinet minister told me just days ago that he was worried about US commercial property being the next sub-prime.
In the UK, the most enthusiastic lenders to the sector during the bubble were…RBS and HBOS.
Here are some good Alphaville links for you:
And if that wasn’t enough to worry you: The Fed warned this month that banks have been too slow to acknowledge duff commercial property loans
UPDATE
Someone reminds me that the asset protection scheme is designed to pick up this type of failure. Under the APS – a kind of insurance scheme – the bank takes an initial “first loss” hit and then absorbs just 10 per cent of further losses. The taxpayer picks up the other 90 per cent. In theory this should protect the public from another systemic breakdown.
Then again, the lesson we learned from subprime is that risk has been transferred into so many different vehicles in so many different countries that no one knows for sure where financial pain – for example caused by the commercial real estate crash – could manifest itself.
Jim Pickard
Kiran Stacey
