For instance, the FSB reported that some open-ended funds are facing “significant liquidity mismatches” and may be vulnerable to investor runs.
“There have been a number of instances in recent years where such funds, in the face of significant investor redemption requests, introduced gates or suspended redemptions due to illiquidity in the underlying market,” it noted.
The group also found “pockets of high financial leverage” in some REITs and investment funds.
“A decline in property valuations or an inability to roll over maturing debt could lead to forced deleveraging that can propagate across the [real estate] market,” it said.
The FSB noted that the sector’s inherent lack of liquidity makes it difficult to value funds’ assets and collateral, particularly during periods of market stress.
“Delayed loss recognition due to infrequent valuations and lenders’ loan modification practices can lead to abrupt losses in a prolonged downturn,” it said.
The report also highlighted the growing and complex interconnections between banks and non-bank investors in the sector, which increase the risk of market stress spreading in unpredictable ways.
The FSB noted that banks are the primary lenders to the sector but may also invest in REITs and real estate funds.
“Banks may also have common asset exposures to these investors, which increases the potential for shocks to the [commercial real estate] market spilling over to the banking sector,” it warned.
It added that gaps in data and oversight prevent regulators from having a full picture of these potential connections.
While the global financial system has so far been able to cope with recent turmoil in the commercial real estate sector, the FSB said “ongoing monitoring of the market is warranted given the more volatile performance of [commercial real estate] exposures compared to other assets, structural shifts in demand, and the effects of extreme weather events and new energy efficiency standards in some jurisdictions.”
It also suggested that action may be needed to address some of the vulnerabilities identified in the report — such as enhancing transparency, closing data gaps for regulators and encouraging investors to adequately account for valuation uncertainty in their risk management practices.
“Implementation of the FSB’s recommendations to address structural vulnerabilities from liquidity mismatch in open-ended funds” would also help, the report noted.