Comment by NoboruWataya
14 hours ago
I mean, it's highly unintuitive, which I would say makes it difficult to understand. The main weirdness is that lowering the rent would force a revaluation whereas letting the building sit vacant for an extended period of time apparently would not. If this is truly driven by regulatory capital requirements, then it seems like a gap in the regulations.
Also foreclosure generally isn't the only option: the borrower could, for example, agree to repay part of the loan early, or give extra collateral, both of which would increase the LTV (and this would be better for the bank).
I'm not saying the explanation is wrong, but I don't blame people for finding it difficult to understand. Other factors contributing to this are probably borrower relationships/negotiating strength and the high costs associated with foreclosing.
Banks care that you pay their loan first and foremost, how you do that as the borrower is up to you.
They care about the regulatory requirements in so far as you either meet it, or you don’t at the time of writing a loan. And maybe you get a yearly review.
Also people are looking at this in a very isolated view. Just because a building is vacant doesn’t mean the owner has no other option than just lower the rent. Typically owners of commercial property own multiple properties and various other types of assets. Vacancy rates are also built into calculations.
That's the missing link on these - the owner is making payments either way - the bank is getting their money.
They don't want to disrupt the flow or trigger contract clauses, so they cover the missing cashflow from elsewhere.
They are extending loans though. In a normal market, requesting an extension when the bank knows you're underwater should set off some risk alarm bells and trigger a denial. The "normal person" intuition about how loans work is correct here: if I try to refi my house when it's underwater and I've lost my income, the bank denies the refi. That incentivizes me to do what it takes to make the bank whole, or, make the appropriate decision to leave my house and let someone else who can afford it take over payments.
When everyone, the regulator, the operator, and the bank, are whistling a tune, when the whole sector is fucked, everyone has a big problem. How big? About as big as hundreds of buildings in the downtown of every major city sitting half-empty!
That's a pretty big problem. Maybe not as large as 08 but definitely structural. We're all paying indirectly for this office space to sit empty, instead of being able to use it.
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> lowering the rent would force a revaluation
Commercial leases are often for say 5+5 years, so once you lock it in, you know for sure what the property revenue is going to be for the next so many years. Your uncertainty equation has collapsed.
I think the main insight here is that commercial real estate is an entirely different animal than the residences that you may be used to.
You can apply this same reasoning to the "back to the office" pushes done on behalf of the institutional investors who have exposure to large commercial properties in inner cities. That too is a financial house of cards built on assumptions and vibes.