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Lending & Credit Risk CRE Lending Credit Risk Management

CRE risk management: Navigating hazards and opportunities

Kent Kirby
Rob Newberry
Mary Ellen Biery
December 18, 2023
Read Time: 0 min

Stress testing, monitoring are essential

Financial institutions should challenge assumptions about CRE risk while also watching for red flags as they manage the CRE portfolio.

You might also like this webinar on credit department housekeeping.

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Takeaway 1

Banks and credit unions are critical sources of capital for businesses in their communities, so how institutions assess CRE credits matters.

Takeaway 2

Advisors recommend that financial institutions look behind some of the headlines and examine their own markets before ruling out CRE altogether.

Takeaway 3

Loan-level stress testing can help assess repricing risk, while capital stress testing helps clarify the impact of CRE loan losses on capital.

Critical capital

Should CRE lending be off the table?

Recent headlines may lead bankers to believe that shunning commercial real estate lending is the safest path to limit or avoid credit risk, given stresses on CRE and regulatory concerns. But that might not be the best move for your financial institution or your community.

Abrigo advisors Kent Kirby and Senior Consultant Rob Newberry argue that even in this complex environment, banks and credit unions should explore opportunities by considering the unique dynamics of their portfolios and local markets while carefully assessing risks. They explained adopting a more nuanced approach during a recent Abrigo webinar for bankers.

Traditional bank CRE financing 'scarce'

Banks and credit unions are critical sources of capital for businesses in the financial institutions’ communities, so automatically following the prevailing “conventional wisdom” related to CRE can hurt members or customers, Kirby said. It could also provide unnecessary opportunities for competitors to get the business relationships.

Indeed, traditional bank CRE financing in September 2023 was labeled “scarce” by the Federal Advisory Council, which expected continued slowing in lending this year. Banks and thrifts hold half of all outstanding CRE debt through the second quarter, with insurance companies accounting for 12% and commercial mortgage-backed securities holding 14%, according to Trepp.

Bankers should examine warning signs and shore up defenses for existing income-producing CRE loans as part of commercial property loan risk management. But understanding trends in their own portfolios and local markets can allow lenders to identify risk-appropriate CRE credits. 

“Today, particularly in commercial real estate, conventional wisdom is causing a lot of people to overreact,” said Kirby, Director of Advisory Services. “Don’t believe everything you read or hear about CRE.”

Are there opportunities?

Three approaches for commercial property

Advisors recommended three approaches before ruling out CRE altogether:

  • Challenge assumptions behind the idea that CRE is universally a bad asset class.
  • Examine existing loans and those in the pipeline carefully and adjust for risk.
  • Use portfolio risk management tools, which make it easier to continue supporting local and national economies prudently.

Challenge CRE risk assumptions

A popular argument against commercial real estate lending now is that working from home has “killed” office spaces permanently. But Kirby recommended examining data and surveys used to support this idea.

For example, a recent study found that trips to central business districts in large cities have plateaued at about 60% of pre-pandemic levels, while those in smaller towns have fully bounced back.

 “Larger cities seem to be stuck in this new world, while smaller cities seem to be recovering,” Kirby said. “The point is this: There’s a lot of these surveys, and when you read them, they are New York City, San Francisco, Chicago. They’re not your hometown. The impact is not consistent.”

Retail and multi-family CRE opportunities

Similarly, retail CRE has been painted as too risky because of online sellers’ growth. “Certainly, one asset class, the regional mall, is quite dead,” Kirby said. But even online giant Amazon is trying out various store formats to find its next growth engine, and demand for retail space across the U.S. is robust.

“I'm not saying go out and make every retail loan that you can get your hands on,” he said. “Understand what's going on in your portfolio, in your market. I believe there are opportunities out there. It’s not a situation where you want to just deny that there's any hope for retail.”

Certain sectors within multi-family CRE might also yield good loans despite concerns about over-saturation. 

Stay up to date with CRE risk management.

In their transition between a house with a big yard and assisted living, for example, some older adults are choosing apartments, Kirby said.

Changes in asset quality

Red flags for CRE risk

Abrigo’s survey of more than 200 bankers revealed that slightly over half believe asset quality within their CRE portfolios hasn’t changed much in the last six months. Nearly 40% noted some deterioration in a few segments, and about 10% reported a general worsening of asset quality. Less than 1% have seen CRE segments with significant deterioration.

However, given the current economy and regulatory concern about CRE, all banks and credit unions should remain on alert for red flags and be ready to act, the Abrigo advisors said.

Small banks have 4.4 times more exposure to U.S. CRE credit than big banks, according to J.P. Morgan data. CRE loans make up 28.7% of small bank assets, compared with only 6.5% at big banks.

Examiners have substantial concerns about repricing risk, Newberry said. Federal Reserve and OCC examiners at an Ohio Bankers League forum this summer highlighted repricing risk, uncertain lease renewals for office space, and increasingly burdensome costs for long-term care facilities, he said.

He recommends loan-level stress testing of commercial balloon mortgages that will reprice in the next three years or so to identify borrower-level risk tied to cash flow. Understanding portfolio and concentration risk is also important.

“If you haven’t had your exam yet, the two things that they’re going to talk about is repricing risk on the balloon repayments…and stress testing your portfolio in general,” he said.

Newberry expects examiners to focus on whether commercial property credits are accurately risk rated as an overall pass or as a classified loan, rather than on variations within the pass ratings. Use loan-level CRE stress testing to understand what loans might migrate to classified, and use the Fed’s scenarios for capital stress testing to identify when losses might impact capital. 

“Whether you’re CRE-concentrated or not, you should at least understand the boundaries of the game,” he said.

Learn more about effective risk rating systems in this on-demand webinar. 

He also urged segmenting the CRE portfolio to clarify how much capital is tied to a specific segment. “Whether you are concerned or not, at least have it spelled out so that when examiners come, you can say, ‘Hey, we looked at office space.’”

CRE loan management tips

Recent guidance on CRE loan modifications and workouts is evidence that regulators are concerned about managing CRE risk. Loan documentation will be critical in upcoming exams. Policies and procedures should be well articulated and consistent with risk appetite, and the appraisal review process needs to be effective. Examiners “have got to be able to come to a conclusion…and they’ve got to be able to come to the same conclusion you did,” Kirby said. “If they can’t do that, you’re going to have a problem.”

Deferred maintenance and missed tax payments are other red flags for financial institutions to monitor. Look at facilities and ask questions when lenders are out talking to customers. Conduct site inspections when renewing balloon loans to make sure the collateral is as expected.

Finally, financial institutions can better understand and monitor CRE risk by using tools that make it easier. Benchmark industry analytics help identify how borrowers are doing compared to the industry. Credit union or bank stress testing software helps quantify several types of risks under different scenarios. Portfolio risk management software can automate many of the tasks related to tracking key performance indicators for monitoring risk and reporting to management and the board. Banking intelligence software provides transparency into the portfolio, along with early warnings to anticipate future risks.

As financial institutions navigate a complex CRE environment, a balanced and informed approach will help them identify opportunities while effectively managing commercial property credit risks.

Learn more about CRE risk management in this webinar, "Red flags vs. red herrings: identifying emerging CRE risk."

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About the Authors

Kent Kirby

Director, Advisory Services
Kent Kirby is a retired banker with 40 years of experience in all aspects of commercial banking: lending, loan review, back-room operations, portfolio management, portfolio analytics and credit policy. As Director, Kirby assists institutions in the creation, review and/or enhancement of current credit policies, risk rating systems and loan review

Full Bio

Rob Newberry

Senior Consultant
Rob Newberry is Senior Consultant with Abrigo’s Advisory Services and a faculty member of the Graduate School of Banking at the University of Wisconsin-Madison. In the past 10 years, he has worked with financial institution leaders and regulators to develop a suite of credit administration tools for community banks and

Full Bio

Mary Ellen Biery

Senior Strategist & Content Manager
Mary Ellen Biery is Senior Strategist & Content Manager at Abrigo, where she works with advisors and other experts to develop whitepapers, original research, and other resources that help financial institutions drive growth and manage risk. A former equities reporter for Dow Jones Newswires whose work has been published in

Full Bio

About Abrigo

Abrigo enables U.S. financial institutions to support their communities through technology that fights financial crime, grows loans and deposits, and optimizes risk. Abrigo's platform centralizes the institution's data, creates a digital user experience, ensures compliance, and delivers efficiency for scale and profitable growth.

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