Australia’s central bank has warned of deteriorating conditions in commercial property markets, with banks and developers exposed to excessively high property valuations.
In its April Financial Stability Review, the Reserve Bank gave a grim forecast detailing that the coming period would see lower volumes, sales and valuations, reflecting the weak rental market and revaluation risks that institutional investors face.
The review came after the government introduced a mandatory code of conduct that requires landlords to consider rent reduction for tenants struggling with declining incomes. This amount will be canceled at 50% and deferred at 50%.
The retail sector has also been at risk due to the coronavirus, which has caused the economy to slow down, and that is according to the Reserve Bank.
According to the Reserve Bank, there has been a deterioration in the outlook for demand for commercial real estate from tenants, which has been caused by worsening business conditions. This has translated into lower rents and higher vacancy rates.
Commercial real estate prices have also risen faster relative to rents in recent years, and it’s all thanks to falling interest rates. Therefore, this shows that many landlords will struggle in the event that tenants are unable to pay their rent.
This could cause some investors to violate loan covenants, while developers who still have projects under construction may find it difficult to close profitable sales. Such a problem believes that most developers will end up with their inventory and even debt on their balance sheets, resulting in a lack of revenue.
According to the Reserve Bank, valuation companies in the real estate markets have seen an increase to high levels in recent years, both at home and abroad. Banks have suffered losses on construction loans in the past, and this has grown at a faster rate although it is only a small percentage.
About 6 percent of total bank assets are exposed to commercial real estate. Yet non-bank lenders have also been included by the RBA in this percentage, and that even includes apartments.
Office markets also face high risks, and although they have been strong in the recent past, they are expected to deteriorate significantly. According to the Reserve Bank, some real estate funds with assets totaling Â£ 20 billion have suspended their buybacks due to valuation uncertainty and the inability to sell quickly.
It is also estimated that demand will not be able to keep pace with the strong supply ahead, as a massive volume of office supplies is expected to be delivered to the Sydney and Melbourne CBD markets this year.
According to Goldman Sachs, a reduction in rents will occur due to the large increase in vacancy rates in Sydney and Melbourne CBD to around 30-34%. The worst part is that demand will drop drastically after the completion of recent office developments. This led Goldman Sachs to lower its estimate of underlying trading funds for large office owners by title.
In the first quarter of this year, demand for office space in Melbourne’s CBD turned negative, and according to Mr. Randall, an analyst at Goldman Sachs, they expect negative demand to remain the same throughout the year.