A weakening commercial real estate sector could be a canary in the coal mine for the US financial system at large, according to economist Peter St Onge.
In a new video update, the analyst says growth in major urban areas of the US appears to be declining, which could potentially wipe out a slew of real estate firms who are leveraged up and indebted to regional banks.
St Onge says US banks will have to pay dearly for the decline of the American city if interest demand for prime urban real estate cools off.
“We are now seeing a mass extinction [of badly run companies and real estate projects] now that money is very much not free, thanks to the Fed rate hikes. In fact the prime rate – that’s the interest rate offered to the very best companies – is currently running at 8.25%. That is up from 3.25% for most of the past 15 years. However, we have an economy that has grown into cheap money and that cheap money is over.
All with the added bonus that many of America’s cities – so 85% Americans live in cities or suburbs – are so badly run between crime, quality of life, and regulatory and tax harassment, that companies are either fleeing or they are closing up shop altogether. All of this while post COVID remote work means millions of workers also no longer need to suffer the newly miserable cities so they too are fleeing.”
The analyst warns that the true scope of the problem hasn’t fully manifested yet. According to St Onge, the combination of bleeding government bonds, rising interest rates, and massive amounts of bad loans sitting in regional banks could be a perfect storm that triggers major economic fallout.
“It amounts to a perfect storm for commercial real estate that, if anything, is getting worse. I’ve mentioned that these storms haven’t even begun to hit the banks. So far it’s mainly been melting government bonds taking up banks one by one – as in they’ve got assets paying 2% or 2.5% while their debt is costing closer to 5%.
But in fact about 43% of regional bank loans are in commercial real estate. That’s what they specialize in since they know the local area, with 40% of that in office space. So both are directly in the crosshairs.
Taken together we get a death sentence for regional banks that given the scale of the bubble could spread across the entire financial system as higher rates kill the businesses, they stop paying rent and the real estate goes under with additional stresses from consumer defaults.”
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