New research shows that lending at the end of a cycle always leads to disaster. The industry just can’t seem to help itself
The CRE property lending industry seems to be magnetically attracted to accelerating its lending activity towards the end of each major property cycle, with inevitably disastrous consequences for lenders and the property industry as a whole. But how disastrous?
My own contention has always been that any CRE lender continuing to actively compete and lend at the end of the cycle loses more than all the profits they make in the rest of the cycle. But, as Chair of the PIA Long-term Value Working Group trying to address this problem, I was asked, could I prove it? Well actually, it turns out that I could and I can.
After much research, analysis and industry consultation, towards the end of 2018, I published a peer reviewed report entitled “The CRE Lending Black Hole: steady gains followed by extreme pains”. Conclusion: End of cycle losses have consistently wiped out rest of cycle profits for the industry as a whole – and for the majority of lending organisations in the industry. And not just in the last cycle (where the majority of the detailed research and analytics focused), but for the previous two cycles as well. Incredibly, the CRE lending industry as a whole has been unprofitable for the last fifty years, since the 1960’s at least.
The financial analytics were surprisingly easy. After aggregating and analysing various sources of industry data, one can pretty quickly establish gross industry revenues for the last cycle. Alongside this, calculating the costs of maintaining lending operations and reflecting the cost of capital, were readily verified by interrogation of the industry. Finally, and very helpfully, since 2007 the Bank of England has been tracking and reporting real estate write offs, virtually all of which relate to end of last cycle CRE loans. So the conclusion of all this analysis of the last (1992-2008) cycle was:
Gross Revenues: £28bn
Lending Costs: £21bn
B of E reported Write offs post 2007: £19.3bn
Overall Cycle CRE lending loss: £12.3bn
CRE lending profits of £7bn were completely swamped by end of cycle losses of £19.3bn.