Banks face commercial real estate stress tests

August 18, 2009

One of the big uncertainties left at this stage of the credit crisis is the amount of losses banks will have to take from foreclosing on defaulted commercial real estate loans. The question is both how bad those losses will be and when they materialize, and how much money banks can make in the interim to absorb them.

Fitch Ratings is obviously sufficiently worried about the issue to launch a new review, looking at banks’  loans books and underwriting critieria,  and conducting its own stress tests.  

 So far banks haven’t had to take too much pain from forced sales, Fitch notes. But it expects losses to pick up as rentals decline and property companies breach covenants.

Banks’ “flexibility to absorb significant additional problems may be constrained by a weak earnings outlook and capital bases that have yet to recover from the current turmoil,’’ the agency said in a report today.

Of course the agency already has an idea of banks’ exposures and likely future losses and factors that into its ratings. But Fitch notes that “current indicators point to heightened potential for continued deterioration.’’  The agency doesn’t say anything about downgrades — yet.

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