Commercial Real Estate Is in Trouble. Here’s What to Focus On.

When Jerome Powell, the chair of the Federal Reserve, appeared on “60 Minutes” this past weekend, he said he wasn’t super-worried about the risk of a banking crisis triggered by defaults on office buildings and downtown retail. While acknowledging that the future is uncertain, he said that “it appears to be a manageable problem” for the biggest banks. He said “we’re working” with some smaller and regional banks that have “concentrated exposures in these areas that are challenged.”

As usual when it comes to the Fed, one has to decide whether to be reassured by its reassurances or worried that the folks in charge aren’t worried enough. I wouldn’t say a crisis is imminent, but I do worry that Powell and company are underestimating the risks. I’ve made four charts that explain my thinking.

First, people who discovered the benefits of working from home during the Covid pandemic aren’t continuing to come back. The rebound in working from the office has pretty much stalled, as the following chart shows. It’s based on data collected by Kastle Systems’ optimistically named Back to Work Barometer.

The low occupancy rate is a ticking time bomb for owners of office buildings. When leases expire, tenants won’t want as much space as they have now. Vacancy rates will shoot up. We’re already seeing that happen. Last month Moody’s Analytics announced that the national office vacancy rate rose in the fourth quarter to 19.6 percent, breaking the record of 19.3 percent that was set in 1986 after a period of overbuilding and was then tied in 1991 during the savings and loan crisis.

The need for office space wouldn’t decline very much if everyone came in on the same days and people still needed their old desks. In reality, though, as the chart above shows, occupancy rates are fairly low even on the highest-occupancy days. Plus, some employers are using the days when people are together in the office for team activities that don’t require as much space, Ryan Luby, an associate partner at McKinsey & Company, told me. He coauthored a report for the McKinsey Global Institute last year titled “Empty Spaces and Hybrid Places.”