The Financial Stability Board (FSB) has released a report focusing on vulnerabilities in non-bank commercial real estate (CRE) investors. The analysis builds upon the findings from the 2024 FSB report, which highlighted interest rate and liquidity risks within the financial system, specifically pointing to non-bank CRE investors as being susceptible to rising interest rates.
According to data from FSB members, banks and non-banks collectively provided at least $12 trillion in equity and debt financing to CRE in 2023. While banks are the primary source of this financing, non-bank investors such as property funds and real estate investment trusts (REITs) also play a crucial role in certain regions. The report identifies three key vulnerabilities among these investors: liquidity mismatches, high financial leverage, and opacity in valuations of CRE assets.
Liquidity mismatches occur when open-ended property funds face significant investor redemption requests but lack sufficient liquid assets to meet those demands. This has led some funds to introduce gates or suspend redemptions due to market illiquidity. Implementing FSB's recommendations could help address these issues.
High financial leverage is another concern identified in some REITs and property funds. A decline in property values or an inability to refinance maturing debt could force deleveraging that might impact the broader CRE market.
Opacity in asset valuations presents further challenges due to the illiquid nature of the CRE market. Difficulty in pricing assets during times of stress can result in delayed loss recognition and abrupt losses during downturns. Enhancing transparency and incorporating valuation uncertainty into risk management practices may mitigate this vulnerability.
The report also notes complex interlinkages between banks and non-bank CRE investors. Banks provide debt financing and can invest directly in REITs and property funds, leading to shared asset exposures that increase potential spillovers from shocks within the CRE market into the banking sector. Addressing data gaps would improve authorities' ability to monitor these risks effectively.
Despite recent adverse developments, the global financial system has managed well due to factors like lower loan-to-value ratios compared with previous stress episodes, heterogeneity within markets, and distressed borrowers' refinancing capabilities. However, ongoing monitoring remains essential given volatility within CRE exposures compared with other assets alongside structural demand shifts influenced by extreme weather events or new energy efficiency standards across jurisdictions.
The FSB continues its role coordinating international efforts for effective regulatory policies ensuring global financial stability under Chairman Klaas Knot’s leadership while based out of Basel under hosting arrangements provided by Bank for International Settlements.