Billionaire investors see an ‘existential crisis’ and ‘very, very ugly market’ in commercial real estate—and Moody’s just downgraded a key regional bank to junk status

In January, Barry Sternlicht, the billionaire founder and CEO of real estate giant Starwood Capital, warned that there’s going to be an “existential crisis” in the commercial property market. His comments followed a prediction from Cantor Fitzgerald’s billionaire chairman and CEO, Howard Lutnick, for between $700 billion to $1 trillion of commercial real estate defaults over the next two years just days earlier. “I think it’s going to be a very, very ugly market,” Lutnick told Fox Business, warning of a “generational change” in the space.

This month, the stock market is digesting some ugly facts indeed. On Tuesday, Moody’s downgraded the credit rating of regional bank holding company New York Community Bancorp (NYCB) to junk status owing to “multifaceted financial, risk-management, and governance challenges.” The ratings agency cited recent risks to NYCB’s “core historical commercial real estate lending” business as well as “significant and unanticipated” losses on New York office and multifamily property in its report.

NYCB stock plummeted over 12% on the news, before recovering all of its losses to end the day well into positive territory. The recovery came after Bloomberg reported Wednesday that NYCB is looking to offload commercial property mortgage risk and is exploring loan sales, citing unnamed sources. The company also announced the appointment of a new executive chairman, Alessandro DiNello, after being criticized for governance issues by Moody’s. And DiNello reassured investors that the bank has “seen virtually no deposit outflow from our branches” on a conference call Wednesday, per Yahoo Finance.

Still, analysts were quick to downgrade the company. A Bank of America Research equities team led by Ebrahim Poonawala cut NYCB’s rating from “buy” to “neutral” after Moody’s report, and slashed their price target from $8.50 per share to $5. Poonawala argued that the stock is struggling owing to “perceived risks tied to the commercial real estate (CRE) book.”

As of the end of the fourth quarter, NYCB held $13 billion in loans and leases tied to commercial real estate acquisition, development, and construction, and another $25 billion in direct commercial and industrial loans and leases, according to SEC filings. Overall, nearly 60% of its loans are tied to commercial real estate. And with multiple real estate billionaires warning that $1 trillion in defaults are coming for the sector, these holdings are a risk in the minds of investors and ratings agencies.

Sternlicht said in January there’s already a “serious mess” in the commercial real estate market, with the trend toward remote and hybrid work pushing office vacancies to a 40-year high this year, and rising interest rates raising the cost of borrowing in the sector. And it’s not just billionaire investors sounding the alarm. Fed Chair Jerome Powell touched on the issue in his 60 Minutes interview on Sunday, saying he believes regional lenders will deal with the problem for a long time. And days later, Treasury Secretary (and former Fed chair) Janet Yellen expressed her own concern in testimony to Congress.

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A warning sign for some regional banks—but is it a problem for the wider economy?

NYCB’s ratings downgrade could be seen as a warning for other regional banks with ties to commercial real estate. As Fortune previously reported, some experts fear that rising commercial real estate defaults could spark a “doom loop” for exposed regional banks. That’s when depositors of banks with ties to commercial estate fear their bank could be in trouble, leading them to withdraw their money.

That, in turn, can force banks to not only stop making commercial real estate loans, but call in underperforming loans to bolster their balance sheets. That means selling properties into an already weak market and accelerating its downturn. And thus, a negative feedback loop is born where more property defaults lead to more regional bank defaults.

Still, Steve Eisman, who rose to fame after he was portrayed in the 2010 book and subsequent movie The Big Short, argued this week that these issues will be “confined to certain community banks and regional banks.”

“I don’t see a systemic or big problem at this point that’s going to hurt the economy at this time,” Eisman, who is now a senior portfolio manager at Neuberger Berman, told CNBC.

Wharton professor Jeremy Siegel echoed those comments in his weekly commentary for WisdomTree on Monday. “I see this being more isolated,” he wrote. “Some estimates say we have $1.2 trillion of write-downs from commercial real estate coming. Aggregate wealth is $60 [trillion to] $70 trillion in the U.S., so this $1.2 trillion hit is not a large deal for the economy as a whole.”

Siegel argued that there may be more commercial real estate “write-downs”—when banks or other property owners are forced to account for declining asset values—and those could cause problems at some banks. But overall, he said he doesn’t “think this will be a major issue for stocks or the economy.”

This story was originally featured on Fortune.com