New IPOs Cannot Be Processed During Potential Shutdown, SEC Chairman Says

The Securities and Exchange Commission will be left with “a skeletal staff” in the event of a government shutdown, unable to process new IPOs or take new enforcement actions, SEC Chairman Gary Gensler explained Wednesday. His remarks were given in response to questions at a hearing of the House Financial Services Committee.

Gensler estimated that between 90% and 93% of the SEC’s staff would be furloughed during a shutdown. This would result in the SEC operating with a staff of approximately 400 of its total 4,600 employees.

Many SEC functions would have to halt in that scenario, including reviewing and approving documents related to IPOs. In response to a question from Representative Maxine Waters, D-California, Gensler said, “The initial public offering market would be shut down with the government,” and firms already in the process of going public would be in a “subliminal state where they cannot access the markets.”

He added that, in some cases, public companies will not be able to make new offerings because the SEC will lack the staff necessary to process the paperwork.

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The possible shutdown of the government and the IPO market comes as initial offerings have begun to pick up this year, with a total of 79 sold so far in 2023, up from 71 for all of 2022, according to data from Renaissance Capital. This year’s activity remains significantly lower than the 397 that priced in 2021. Renaissance also reported 130 IPOs filed with the SEC so far this year, an 18.2% change from the same date last year.

The SEC would also be unable to take on new enforcement actions. Gensler explained that the public can still give tips to the SEC Division of Enforcement, but “there won’t be the people on the other side to investigate it.”

As for rulemaking, Gensler said the SEC “cannot finalize rules,” but comment files will stay open. He added that, in the event of a shutdown, there would not be staff to read those comments as they come in. The SEC has at least two comment periods that close in October, including a proposal on the conflicts of interest associated with the use of artificial intelligence due October 10 and a proposal on how advisers safeguard client assets due October 30.

Gensler noted that government shutdowns also damage employee morale and retention at the SEC. Most employees will be furloughed or expected to work without pay, and “it’s hard on people. They can get jobs at law firms and elsewhere.”

At Last, Long-Awaited Inflection Point for IPOs Seems to Be Here

Tags: Gary Gensler, government shutdown, SEC

Willis Towers Watson suggested strategies for asset owners to navigate pullback in the commercial real estate market, such as diversifying their real estate holdings, and gave insight on the current state of the market in its new report, “Out of office: The status of the U.S office property sector amid bank turmoil and remote work.”

WTW also reported fewer developing projects being undertaken soon, as regional banks, which provide a significant amount of construction lending, have cut back.

According to the report, landlords will face significant refinancing risks in the next few years, as higher interest rates will result in pricier loans that will come due soon. Commercial mortgages are often structured as three- to 10-year loans for which property owners pay accrued interest in monthly installments over the length of the loan, with a one-time principal repayment at maturity.

Tightening conditions and higher rates, resulting in higher-cost loans, at a time when property values are declining make landlords’ ability to pay off, refinance or sell their properties more challenging. According to the report, $1.5 trillion in commercial mortgages will come due over the next three years, while delinquency rates have ticked up to 4.4% in July from 2.9% in January.

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What to Expect in the Coming Years

Although the WTW report noted that delinquency rates are lower than in previous cycles, its analysts expect distressed activity to increase over the coming years. According to WTW, the most at-risk loans are those originated in recent years, most at peak valuations with variable interest rates.

There are other structural and cyclical headwinds for the commercial real estate industry, including the growth of remote and hybrid work and the current economic slowdown. WTW predicted office vacancies will rise and peak in 2025 as big tech companies and the federal government, some of the largest commercial tenants, reduce their office space.

According to the report, office attendance has been 40% to 60% of the historical norm. The report cites McKinsey & Co.’s July 2023 McKinsey Global Institute, Empty spaces and hybrid places: The pandemic’s lasting impact on real estate report that states office attendance has stabilized at 70% of the historical norm. “Regardless of the exact utilization figure, the paradigm shift in hybrid work arrangements will likely lead to a material decrease in the amount of office space tenants require, [and it] will take years to understand the effects on overall demand,” the WTW report stated.

While commercial utilization is decreasing, WTW noted that tenants are opting for less space, but in newer buildings—many with LEED certifications and numerous amenities (such as gyms and outdoor space)—near convenient transit locations.

According to the report, older office buildings are becoming obsolete and require significant investment by owners to maintain or renovate. The report cited data from Cushman & Wakefield plc stating that 15% of the U.S. supply of office space—mainly low-quality, older buildings—is responsible for 80% of the sector’s vacancies, as these older buildings struggle to attract tenants. WTW estimated this will result in more than 330 million square feet of excess space by the end of the decade.

WTW also estimated that 34% of commercial real estate can be suitable for use as residential or other space. This does come with its own challenges, the report noted, such as physical and zoning limitations of converting office to residential use.

How Investors Can Better Position Themselves

According to WTW, the pullback in commercial real estate debt markets presents an opportunity to fill the funding gap from non-bank capital providers. There is a big opportunity for alternative lenders, such as private credit and direct lenders, to take up commercial real estate lending as an alternative to local banks, explains Jon Pliner, WTW’s senior director and head of delegated portfolio management.

The report stated that shifting property values and tightening financial conditions have made it possible for lenders to derive equity-like returns by accessing different segments of the commercial real estate finance stack (such as senior debt, mezzanine debt and preferred equity).

Commercial real estate owners who have stakes in the newest, highest-quality buildings will better navigate any future headwinds, WTW noted, adding that commercial office space currently ranks last out of 14 different property types by interest from institutional investors. According to WTW’s report, investors should look into investing in different office subtypes, such as medical or life sciences, which are effectively immune to headwinds such as the economic downturn or remote/hybrid work.

Tags: commercial real estate, Jon Pliner, Willis Towers Watson, WTW