In a recent New York Times article, Jeffrey Harte, a banking analyst at Sandler O’Neil, is quoted as saying “…the fear is the next shoe to drop may be commercial real estate…”  He contends that the fortunes of commercial real estate follow the fortunes of consumer lending and credit.   The logic seems very sound, and there is growing evidence to support the logic.

For example, the Moody’s / REAL Commercial Property Price Index has dropped roughly 12 percent from its peak in October 2007.  Further, in the final quarter of 2007, Morgan Stanley reported write-downs of $400 million in commercial real estate mortgages.  In the first quarter of 2008, Wachovia announced it would write-down roughly $1 billion in commercial real estate loans in its portfolio.  More recently, Lehman Brothers has been prominently in the news because of market fears surrounding its heavy concentration of commercial mortgage-backed securities.  Among major Wall Street institutions, Lehman Brothers holds the largest concentration of commercial mortgage-backed securities at approximately $29 billion.

According to Fitch, delinquencies in commercial real estate trusts (commercial real estate mortgages packaged for resale) are increasing, although the level of delinquencies remains modest.  However, there is considerable concern whether a massive New York apartment complex will be able to meet its $225 million mortgage payment in September.  The complex had attempted to reposition and reprice its apartments to generate additional cash flow but has been unable to do so – even in New York, which has long been one of the more robust commercial real estate markets in the country.

So logic may indeed prevail.  Commercial real estate may follow consumer real estate and consumer credit.  If so, another shoe may drop on a struggling economy and its very apprehensive financial system.

If you have questions or issues that you’d like to raise in response to our second webcast on the Credit Write-Up, please post those here and we’ll respond as soon as we can.

As we commented in both webcasts, the credit write-up should serve as the most critical document in the lending process.  To the extent it is accepted, understood, and honored by all parties, it serves as the foundation for a common credit culture.  Given the economic outlook and the prospects for prolonged anxiety in the credit markets, it seems few issues are more pressing than establishing and assuring a common credit culture.