Real estate markets and bank distress

We investigate the relationship between real estate markets and bank distress amongGerman universal and specialized mortgage banks between 1995 and 2004. Higherhouse prices increase the value of collateral, which reduces the probability of bankdistress (PDs). But higher prices at given rents may also indicate excessive expectationsregarding the present value of real estate assets, which can increase PDs.Increasing price-to-rent ratios are positively related to PDs and larger real estateexposures amplify this eect. Rising real estate price levels alone reduce bank PDs,but only for banks with large real estate market exposure. This suggests a positive,but relatively small 'collateral' eect for banks with more expertise in specializedmortgage lending. Likewise, lower price-to-rent ratios are estimated to reduce theriskiness of banks. The multilevel logit model used here further shows that realestate markets are regionally segmented and location-specic eects contribute signicantly to predicted bank PDs.