eFinancialCareers

Commercial real estate is set to generate sizable write-downs for Wall Street, which means trouble for bankers involved in the sector.

Average compensation for real estate investment bankers dropped 10 - 15 percent in 2007 and looks to post a larger decline this year, Eric Moskowitz, head of strategic consulting for Options Group, told eFinancialCareers.

Meantime, Goldman Sachs Analyst William Tanona estimates six bulge-bracket institutions will slash commercial property assets by a net $7.2 billion in the first quarter, according to The Wall Street Journal. That's a four-fold increase from the fourth quarter, and lies about midway between Tanona's estimates for this quarter's combined write-downs from collateralized debt obligations ($10 billion) and leveraged loan commitments ($5.8 billion).

Goldman sees defaults rising and commercial property values sinking 21 - 26 percent in the next two years. And it says the impact on banks' bottom lines will extend over a longer period than the sub-prime blowup because, unlike sub-prime residential mortgages, relatively few commercial real estate loans are securitized and therefore subject to mark-to-market accounting.

Pipeline Clogged By 'Legacy' Deals

The six top banks tracked by Goldman had combined commercial-real-estate exposure of $141 billion at the end of the fourth quarter. Those exposures took varied forms: direct ownership of hotels and other commercial properties, loans extended for specific projects, and commercial mortgage-backed securities they've been unable to sell. Another problem area is so-called "legacy deals" - leveraged buyout loans made to private equity firms and other buyers of commercial real estate companies.

"A lot of real estate debt is going to mature and they won't be able to refinance it," says Moskowitz. As a result, "these banks are not going to be able to do deals." Demand and compensation for commercial real estate bankers, both heavily based on transaction volume, are likely to suffer accordingly. He cites the recent default by developer Harry Macklowe on $5.8 billion of loans from a group led by Deutsche Bank and $1.2 billion of loans from Fortress Investment Group, which has led to the sale of one of his prize properties: the General Motors building in New York, one of the most valuable office buildings in the U.S.

Moribund Commercial Securitization Business

The lending and securitization pipeline, another fountain of business for bankers earlier this decade, has shut down, too. From 2003 to 2007, global issuance of mortgage-backed securities more than tripled from $85.8 billion to $294.8 billion, according to Dealogic figures cited by the WSJ. But that window began to close in last year's second half, and had completely shut by year-end. This January, not a single CMBS deal was completed - the first dry month in the market's two-decade history. Bonuses for all types of CMBS professionals shrank 20 - 40 percent last year, according to FPL Associates, a Chicago-based recruiting and compensation consulting firm serving the real estate industry.

While commercial property fundamentals appear strong on paper, they're expected to weaken as the slowing economy pushes up vacancy rates and depresses property owners' profits, causing default rates to climb. On the other hand, the commercial market hasn't seen the same kind of speculative building boom that gave rise to the huge oversupply of residential housing. That could cushion property prices this year.

At some future point, Moskowitz believes price weakness could trigger a "distressed real estate M&A cycle." But that won't happen until values sink much further and many more commercial property companies start defaulting on debts, he says.