Banking's next threat? It might be commercial real estate.

If market participants are wringing their hands over the potential fallout from the collapse of Silicon Valley Bank, just wait until they look at the banking industry's exposure to the rapidly weakening commercial real estate sector.

It seems as if every few days brings news of some big property going into default. Within the past few weeks, an office landlord controlled by Pacific Investment Management defaulted on about $1.7 billion of mortgage notes on seven buildings in places such as San Francisco, Boston and New York. Before that, a Brookfield business defaulted on loans tied to two Los Angeles office towers. A $1.2 billion mortgage on a San Francisco complex co-owned by former president Donald Trump and Vornado Realty Trust has showed up on a watch list of loans that may be in jeopardy.

If the saga at Silicon Valley Bank hastens the arrival of the next recession, expect to see many more properties go into default sooner rather than later. This is bad news for lenders because they have ramped up their financing of real estate. Since mid-2021, total real estate loans and leases on their books have soared by more than $725 billion, or 16%, to a record $5.31 trillion, according to the Federal Reserve.

Last year's 11.2% increase was equal to the previous four years combined and the most since - gulp - 2006. Not only that, but commercial real estate loans make up close to 24% of all bank loans, the most since the financial crisis, according to BNY Mellon strategist John Velis. One reason banks have so much exposure is that it has become tougher to offload the risk to investors. The commercial mortgage-backed securities market went from $240 billion in annual issuance in 2007 to just $60 billion in 2020, a 75% decline, Velis notes. Here's what Velis wrote in a research note before Silicon Valley Bank blew up:

"In...