The Commercial Loan Nightmare Facing U.S. Banks

Banks are in for another ugly year in 2010. But this time the problem will be the big batch of deteriorating commercial real estate loans on their books. That’s because the big banks were operating with the same loose standards—and aggressive behavoir—as the investment banks in order to compete in the real estate market during the boom years. (Read our cover story about why this real estate bust is different.) Commercial real estate loans that banks underwrote and held on their books skyrocketed to approximately $190 billion in 2007, up from $11 billion in a single year, a decade earlier. In all, banks hold some $1.8 trillion of commercial real estate debt on their books.

Trouble is, nobody knows just what the values of the loans on bank books’ are since they are not required to mark them to market prices. Since the stress tests conducted by the Feds never looked far enough into the future, the ability to “fully grapple with the prospect of massive future commercial real estate (CRE) loan defaults is uncertain,” admitted Jon D. Greenlee, associate director at the Division of Banking Supervision and Regulation in congressional testimony on July 9 and again on Nov. 2.