Market veteran Howard Marks is sounding the alarm on commercial real estate, with an anticipated wave of mortgage defaults set to add stress to the financial system. “We’re very likely to see mortgage defaults in the headlines, and at a minimum, this may spook lenders, throw sand into the gears of the financing and refinancing processes, and further contribute to a sense of heightened risk,” Marks wrote in his latest memo Monday. “Developments along these lines certainly have the potential to add to whatever additional distress materializes in the months ahead.” Memos from Oaktree Capital Management’s Marks have gained a wide following on Wall Street, and even legendary investor Warren Buffett has said he reads them regularly and always learns something from them. Marks’ comments came after a banking crisis that kept Wall Street on edge about the health of the sector, worrying more seizures to come. The closure of Silicon Valley Bank stemmed from an asset-liability mismatch, meaning a bank does not have enough readily available assets to sell to match the value of its deposits. The longtime investor called commercial real estate loans “one of the biggest worries” U.S. banks face today in the face of higher interest rates and a looming recession. “Higher interest rates call for higher demanded capitalization rates, which will cause most real estate prices to fall,” Marks said. “The possibility of a recession bodes ill for rental rates and occupancy, and thus for landlords’ income.” Marks also raised concerns stemming from the hybrid work model, which threatens landlords’ underlying business model and possibly affects the occupancy levels lenders will assume in their refinancing calculations. To be sure, Marks said he’s not sure if banks will suffer losses on their commercial real estate loans, or what the magnitude will be. “Mortgage defaults generally don’t signal the end of the story, but rather the beginning of negotiations between lenders and landlords,” Marks said. “In many cases, the result is likely to be extension of the loan on restructured terms.”
