A “disorderly” price correction in Ireland’s €50 billion commercial real estate market has been highlighted by the Central Bank as a key risk for the financial sector.
In a new report, which it plans to publish annually setting out its regulatory priorities for the year ahead, the regulator said the macroeconomic outlook continued to be shaped by the adjustment to higher interest rates.
Tighter financial conditions have left financial markets and asset prices vulnerable to disorderly corrections, it said. “Valuation adjustments” across asset classes, including commercial real estate, was pinpointed as a key pressure point.
Higher interest rates in the commercial property sector, which is heavily reliant on leverage or borrowed capital, combined with the increased incidence of remote working are hurting valuations and destroying sentiment.
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The Central Bank’s assessment comes amid anecdotal reports that some investors here are surrendering the keys to their properties in response to sharp falls in asset values.
The bank’s new “regulatory and supervisory outlook” report will be published separately from its twice yearly financial stability reviews.
While the latter look specifically at segments of the financial sector that are linked to the domestic economy, the new report covers a “broader spectrum of internationally active regulated entities and the interests of the consumers and investors they serve”.
In a letter to Minister for Finance Michael McGrath, published alongside the report, Central Bank governor Gabriel Makhlouf warned that while “inflation has fallen in many economies, we have not yet seen the full extent of the lagged effect of monetary policy actions on borrower finances or economic demand”.
“The global economy also remains vulnerable to bouts of volatility and shocks; there are significant risks to the economic outlook including increases in financial distress, the repricing under way in global and local commercial real estate markets, weakening loan growth and increased funding costs,” he said.
“These headwinds underline the (ongoing) need for carefully-calibrated macroeconomic policy,” he said.
In its report the Central Bank noted that while the global financial system had exhibited resilience in the face of the turmoil of recent years “a number of episodes have demonstrated how a confluence of events can quickly cause distress”.
It listed the UK’s recent LDI (Liability Driven Investment) crisis when pension schemes en masse sold holdings of UK government bonds in just a few days in September 2022, creating what commentators called a “self-reinforcing doom loop”. It also highlighted the collapse of Silicon Valley Bank in the US and ensuing market fallout in March last year.
“This points to the need for vigilance by both regulators and firms themselves, in particular in light of the changed macro policy and risk landscape for the period ahead – all of which is informing the priorities of the Central Bank,” Mr Makhlouf said.
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