top of page

High Interest Rates Trigger Major Sell-Offs—Is an Economic Bust on the Horizon?

Updated: Jul 16

The sudden surge in interest rates has left seasoned commercial real estate owners struggling to cope. This wave of troubles has blindsided landlords with office and retail spaces, threatening the entire real estate ecosystem in the country.

 

Mortgage interest rates have skyrocketed with no sign of decline, while remote work and e-commerce have driven former tenants out of buildings, with no indication of their return. Major cities like New York have been particularly affected.

 

Dan Zwirn, CEO of Arena Investors, told the Wall Street Journal, "We have trillions of dollars in investments that are now significantly impaired. People thought these office buildings would always be 98% leased."

 

Property Owners Are Running Out of Time:

According to real estate consulting firm Colliers, the vacancy rate in U.S. commercial buildings was 17% in the fourth quarter of 2023, higher than during the 2008 financial crash. Lenders are reluctant to foreclose on properties they can't sell, so they delay court actions. Tenants who are still paying rent are helping buildings stay afloat, but only temporarily.

 

Without fully rented buildings, maintenance issues will increase, and insuring nearly insolvent buildings is challenging. Many landlords see the inevitable and are cutting their losses. The New York Times reported that commercial buildings across the country are being sold at 50% to 80% discounts.

 

It's not just commercial skyscrapers feeling the pressure. Landlords and businesses in major cities are suffering as workers relocate, and city budgets that depend on commercial property taxes are facing deficits due to lower property tax revenues.

 

Impact on Cities and Smaller Residential Landlords:

When people no longer need to live in cities for work, the city's infrastructure suffers, including smaller landlords who provide housing. Despite high rents and interest rates forcing people to keep renting, many have moved away from expensive Northern cities since the pandemic.

 

Census data shows New York City was hit hardest, losing 78,000 people in 2023. The state of New York lost 102,000 people overall. Most who left were lower and middle-class individuals earning between $32,000 and $65,000, happy to leave high rents and cold weather behind.

 

How Empty Offices Affect Banks and Smaller Investors:

Moody’s Analytics reports a national office vacancy rate of 19.6% in the fourth quarter of 2023, the highest since 1979.

 

If landlords foreclose or sell for less than they owe, it could create major issues for banks holding commercial real estate debt, impacting the entire lending industry and smaller landlords seeking loans.

 

Dan Roccato, a finance professor at the University of San Diego, told CBS, "We saw this last year: a troubled bank creates market uncertainty. This uncertainty spreads through the stock market, real estate market, and eventually affects your 401(k) plan."

 

Cities may try to offset tax income shortfalls from distressed commercial sales by increasing revenue from residential property or sales taxes.

 

The Waiting Game Gets Tougher:

"Survive until '25" is not what landlords struggling with high interest rates expected to hear when the Fed hinted at rate cuts. However, stubborn inflation and Fed Chairman Jerome Powell's refusal to cut rates until inflation falls have investors, homeowners, and politicians worried.

 

Distressed commercial real estate sales and syndications with floating-rate mortgages have made holding underwater debt harder. Banks are also under pressure, with commercial real estate loans comprising over a fifth of U.S. banks' loan portfolios. Many commercial landlords are borrowing to extend loans until rates drop.

 

According to CRED iQ, New York landlords SL Green and Vornado had to find around $100 million to extend a $1.08 billion loan on an office building at 280 Park Avenue in April. Some owners have decided it's better to use their money elsewhere, reminiscent of the 2008 financial crash.

 

Alex Killick of CWCapital Asset Management told the Wall Street Journal, "Last year, borrowers were hopeful for rate cuts in three months. Now, they realize this is the new normal."

 

Final Thoughts:

Investors only let properties go when financial strain becomes unbearable. Many commercial property owners are frustrated by the Fed's teased but unrealized rate cuts. They will happen eventually, but the timing is crucial.

 

In the meantime, the links between commercial buildings, lenders, owners, and the entire real estate infrastructure are weakening, threatening businesses, livelihoods, and cities.

 

While no one anticipated the pandemic, the aftermath should prompt better preparedness for future unexpected events. Interest rates, driven by the Fed's easy money policy, are at the root of rampant inflation.

 

Other countries have recovered from the pandemic more quickly than the U.S. without the inflation and rate hikes. Lessons must be learned.

 

Meanwhile, Jerome Powell needs to provide the nation with hope. Quoting solid economic data isn't enough for landlords about to lose their buildings and residents' homes.


0 views0 comments

Comments


bottom of page