JPMorgan Chase has given investors a warning in a note to pass on REITs that focus on commercial real estate debt, reported Crain’s New York.
“In preparation for a now base-case recession…we are downgrading our recommendation on REIT credit to underweight from neutral,” it reportedly wrote.
The note was triggered by “significant” changes in spreads, which measure the difference between CRE mortgage yields and comparable Treasurys. Between April 1 and the 8th, the spreads had widened by 20 basis points for high-quality commercial mortgages and the 10-year Treasury yield, a standard comparative value. For riskier investment-grade loans, the spread was 150 basis points.
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As of Thursday, April 10, the 10-year yield rose by another 14 basis points. The higher the spread, the greater the borrowing costs for property owners, increasing the difficulty of refinancing debt. On Thursday, April 10, the 10-year yield closed at 4.40%. Multiple mathematical forward projections of the 10-year yield expect a slow increase throughout 2025.
JPMorgan said that the greatest risks currently exist for warehouse space. Should a recession occur, tenants might leave for less expensive real estate, and current prospects of a trade war, particularly with China, could affect supply chains and the availability of goods.
“Industrial [space] is in the eye of the hurricane,” JPMorgan wrote.
Higher mortgage interest rates make it more difficult for investors to buy additional properties, which means that owners who need to sell would have a harder time finding someone to purchase their assets. JPMorgan specifically mentioned Service Properties Trust, which owns more than 200 hotels and looks to sell $1.1 billion in value before the $1.6 billion in mortgages it holds mature by 2027.
Office tower owners might be in one of the better places. Because demand for space has been weak for years, the occupancy rate and rent declines that typically happen in a recession might not occur.
The note had some inherent irony because, according to its 2024 10K, JPMorgan Chase held nearly $144.7 billion in CRE loans, as of the end of 2024. That compares to $132.1 billion in 2023 and $105.5 billion in 2022.
The bank bases collateral values on appraisals from internal and external valuation sources and updates the values every six to 12 months, either through a new appraisal or an internal analysis. “The Firm also considers both borrower- and market-specific factors, which may result in obtaining appraisal updates or broker price opinions at more frequent intervals.”
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