If there’s one word that commercial real estate professionals can fixate on, it’s “risk.” The entire industry revolves around risk, whether it’s eliminating it or going for high-risk, high-reward investments. But there’s another type of risk you might not think about: CRE concentration risk.
As you might have already experienced last year, CRE concentrations can be a big risk during economic downturn (and in certain areas of the country). Let’s look at a few areas that will help determine if you have CRE concentration risk and what you can do about it.
What Is CRE Concentration Risk?
CRE concentration risk occurs when there is a combination of a concentrated CRE portfolio (based on geography, industry, etc.) and poor risk-management practices. This is directly related to the economy, as downturns in certain regions or industries can directly impact the profitability of a CRE property. According to the Federal Deposit Insurance Corporation (FDIC), “CRE loan growth recently prompted regulators to issue guidance to address concerns about CRE concentrations and to provide expectations for managing a concentrated portfolio.”
How to Know if You Have CRE Concentration Risk
It’s easy to tell whether you had CRE concentration risk after an economic downturn causes a portfolio to crash. But you can also determine whether you have CRE concentration risk by identifying the warning signs. Here are some indicators that you need to diversify your CRE concentrations or improve your risk-management practices:
- You don’t have trust in your CRE data
- Your CRE data isn’t organized or classified correctly
- Your portfolio is limited to a single region or industry
- You have no reporting or review process in place for your portfolio
- Your lending company has identified several risks in your property mix
Ways to Alleviate CRE Concentration Risk
Of course, to really know whether you have CRE concentration risk, you need to validate the right CRE data, which can be difficult without the right CRE software. You must verify that information is organized and accurate, and that there is some sort of quality-control process involved. If you’re confident in your data and it’s classified correctly, you can start to mitigate risk by improving your risk-management processes (e.g. monitor leases and loan performance, hold regular audits and stress testing, etc.). It’s also a good idea to consider mixing up, or diversifying, your portfolio. But at the end of the day, awareness and clean data are some of the biggest ways to prevent losses due to CRE concentration risk.
If you’d like to see what CRE software can do for your CRE concentration risk, request a demo of Quarem today.