Research Briefing | Oct 17, 2022

Soaring debt costs increase the risk of real estate distress

Debt costs continue to soar across advanced economies, threatening to push commercial real estate markets into distress. We believe that the transmission mechanism for forced selling will be refinancing shortfalls, but interest coverage ratios are also looking dangerously low.

What you will learn:

  • As signs of financial dysfunction grow, policymakers’ desire to continue tightening until excess inflation is fully removed from the economy is starting to clash with the need to maintain financial stability.
  • Capital values increased in the first half of the year, but since the summer downward pressure has emerged. With elevated financial market volatility, rising occupier default risk, bank credit standards tightening, and recession starting to bite, the risk of forced selling and a sharper correction in pricing has increased.
  • A financing shortfall looks set to emerge for retail and offices, placing these sectors at greater risk of forced sales. Capital values for retail and office assets have declined or been weak over the past five years (a typical loan term) while lending conditions have tightened, meaning a lower loan-to-value is now on offer now relative to five years ago.
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