Introduction
The US financial market in 2025 is at a fragile equilibrium. Moody's latest report reveals a dual tightening in corporate debt distress and the commercial real estate (CRE) market. Corporate debt default risks have hit an 11-month high, while the delinquency rate for commercial real estate loans has reached a record high. Meanwhile, signals from the Federal Reserve's policy indicate concerns about deteriorating economic fundamentals. Particularly for private equity-backed companies, under the dual pressures of high interest rates and an economic slowdown, firms are desperately avoiding bankruptcy through measures like distressed debt exchanges to delay price discovery. Concurrently, banks are retreating from commercial real estate loans, adopting an "extend and pretend" strategy to maintain asset book values and conceal potential losses. Federal Reserve Governor Christopher Waller proposed an interest rate cut in July 2025 to address labor market weakness, but this move may be insufficient to resolve structural issues.
This article, incorporating the latest 2025 data, analyzes the current state, causes, and potential consequences of US corporate debt distress and commercial real estate distress, assessing their systemic risks to the financial system.
The Current State of US Corporate Debt Distress
According to Moody's July 2025 report, the number of US companies entering the highest level of financial distress (lowest credit rating) has reached an 11-month high, with the industrial and consumer sectors being particularly severe, recording 58 and 49 bankruptcy filings respectively, a 15-year high. Factors contributing to this phenomenon include elevated borrowing costs (the 10-year Treasury yield approached 4.5% in May 2025), global trade uncertainties (such as tariff barriers), and slowing economic growth (2025 GDP growth expectations were revised down to 1.4%). Private equity-backed companies are especially vulnerable; these companies borrowed heavily in the low-interest-rate environment following the 2008 financial crisis, accumulating a debt pile exceeding $1.2 trillion (according to PitchBook data), exacerbating leverage through stock buybacks or dividend recapitalizations.
To avoid the price discovery that bankruptcy would bring, many companies opt for distressed debt exchanges, extending debt maturities or adjusting terms through out-of-court restructurings. Moody's notes that this strategy allows companies to temporarily maintain book values but delays the exposure of the true market value of assets. According to S&P Global data, the default rate for high-yield bonds rose to 5.8% in the first half of 2025, the highest since 2020, and is projected to potentially climb further to 6.5% by year-end. Additionally, the expanding federal deficit (Moody's predicts it will reach 9% of GDP by 2035) is pushing up Treasury yields, further squeezing corporate financing space, especially for companies with lower credit ratings, whose interest coverage ratios have fallen below pre-pandemic levels.
US corporate debt distress reflects structural problems fostered by long-term low-interest-rate policies. Private equity masked inefficient corporate operations through financial engineering (like stock buybacks), but high interest rates and an economic slowdown have exposed these vulnerabilities. While distressed debt exchanges can temporarily alleviate pressure, they cannot change the essence of excessive leverage. Once the economy worsens further or market confidence wavers, forced price discovery could trigger a chain reaction, leading to a revaluation of corporate assets and investor panic.
The Tightening in the Commercial Real Estate Market
The commercial real estate market is experiencing a crisis driven by both structural and cyclical factors. In 2025, the default rate for office properties in US commercial mortgage-backed securities (CMBS) reached 11.1%, a record high surpassing levels seen after the 2008 financial crisis (according to Trepp data). This phenomenon stems from decreased demand due to remote work, high financing costs driven by elevated interest rates, and continued declines in asset values. Data on platform X indicates that 44% of the $2 trillion in commercial real estate debt maturing by 2025 is held by banks, with office property loans being particularly risky.
Data from the Federal Reserve System shows that since early 2024, banks have significantly reduced their exposure to commercial real estate loans, especially construction and land development loans. The FDIC's Q1 2025 report indicates that the delinquency and noncurrent loan rate for commercial real estate at large banks reached 4.65%, the highest since 2014. Banks are prioritizing holding low-risk assets like US Treasuries to protect capital adequacy ratios. This retreat reflects concerns about economic uncertainty, particularly among regional banks, where commercial real estate loans can comprise 40%-50% of assets (FDIC data).
Similar to corporate debt, the "extend and pretend" strategy is widely used in the commercial real estate market. Banks avoid defaults by modifying loan terms (such as extending maturity dates or lowering interest rates), maintaining asset book values. For example, a half-vacant office building might still be valued at its pre-pandemic, fully-occupied worth, delaying loss recognition. In 2023, the Fed, FDIC, and OCC jointly encouraged banks to avoid a wave of defaults through loan restructuring; this regulatory forbearance further fueled market avoidance of price discovery.
The commercial real estate tightening is an underappreciated crisis. High default rates and bank retreat indicate the market is nearing a tipping point, especially for office properties. While loan restructuring permitted by regulators avoids a short-term crash, it creates a zombie market where asset values are disconnected from reality. The massive amount of debt maturing by 2025 will force the market to confront price discovery, potentially leading to bank capital shortages and systemic risks for regional banks.
The Federal Reserve's Policy Response
Federal Reserve Governor Christopher Waller proposed an earlier interest rate cut in July 2025, citing a labor market "on the edge." The June 2025 nonfarm payroll report showed an addition of 147,000 jobs, but half came from the public sector, indicating private sector weakness. The average weekly hours for production and nonsupervisory employees fell to the second-lowest level since the pandemic, suggesting decreased consumer purchasing power. A 2025 report from the Philadelphia Fed further noted that while bank loan delinquency rates were slightly below historical highs, the volume of debt charge-offs hit a new record, reflecting underlying stress in the credit market.
The Fed's June meeting maintained the federal funds rate at 4.25%–4.50%, but economic projections were downgraded: 2025 GDP growth expectations were reduced from 1.7% to 1.4%, and core PCE inflation expectations were raised from 2.8% to 3.1%. Waller's rate cut proposal contrasts with the cautious stance of some officials (like Mary Daly), but the Fed's Beige Book focused on layoffs without mentioning inflation, highlighting concerns about an economic slowdown. The head of the Port of Los Angeles recently warned that companies, fearing tariffs, are borrowing heavily to hoard inventory, potentially exacerbating financial pressures.
Waller's rate cut proposal indicates the Fed is beginning to acknowledge economic weakness, but monetary policy is ill-suited to address the structural issues in corporate debt and commercial real estate. A rate cut might boost the stock market in the short term but could also exacerbate inflation or further delay price discovery, prolonging market uncertainty. The Fed needs to find a balance between stimulating the economy and avoiding asset bubbles, and its historical lag in response may diminish the effectiveness of its policies.
Systemic Risk from Private Equity
Private equity plays a key role in US corporate debt distress. Post-2008, the low-interest-rate environment allowed private equity firms to borrow cheaply, accumulating a debt pile exceeding $1.2 trillion (PitchBook data). These firms achieved short-term gains by acquiring companies and leveraging them (through stock buybacks or asset stripping), but sacrificed long-term stability. In 2025, high interest rates and an economic slowdown have laid bare the vulnerabilities of these companies, increasing default risks.
Systemic risk stems from the interconnection of private equity with corporate debt, banks, and the broader financial market. The bankruptcy of a high-profile company could trigger a reassessment of risks across the entire industry, leading to a chain reaction of asset revaluations. Moody's points out that companies with the lowest credit ratings typically only have the options of bankruptcy or restructuring, but current market incentives push all parties to avoid both choices.
The excessive leverage in private equity is a ticking time bomb, and its opacity exacerbates systemic risk. Once a wave of defaults is triggered, it could spread to banks, the bond market, and investor confidence. Regulators should mitigate risks by mandating disclosure of leverage levels and strengthening lending standards; otherwise, a single event could trigger a systemic crisis similar to 2008.
The Absence of Price Discovery and Its Consequences
The absence of price discovery is the core issue in both US corporate debt and commercial real estate distress. Banks, companies, and regulators maintain overvalued asset prices through "extend and pretend" strategies, avoiding a large-scale asset sell-off like in 2008. FDIC reports show unrealized bond losses at banks reached $413.2 billion; if commercial real estate loans were marked to market, capital shortfalls could widen further. Corporate bankruptcies would similarly expose the true value of leveraged assets, potentially triggering market adjustments.
This strategy relies on the hope of a soft economic landing, but 2025 data—slowing GDP growth, a weak labor market, inflationary pressures—suggests this prospect is dim. Once price discovery occurs, whether through defaults, forced sales, or regulatory intervention, it could lead to bank capital pressure and market turmoil.
The absence of price discovery creates a false stability, but this fragility cannot persist indefinitely. Regulatory forbearance and market optimism mask the true state of asset values, but maturing debt and an economic slowdown will force the market to face reality. The arrival of price discovery could trigger systemic shocks, especially for regional banks and private equity investors.
Conclusion
The US financial market in 2025 faces the dual challenges of corporate debt distress and commercial real estate distress. Excessive leverage from private equity, a wave of commercial real estate defaults under high interest rates, and labor market weakness together form a fragile financial ecosystem. The Fed's potential rate cut signals recognition of economic weaknesses but cannot solve the deep-seated structural problems. Data such as rising CMBS default rates, bank retreat, and expanding debt charge-offs indicate the market is approaching a tipping point.
The "extend and pretend" strategy, while delaying the crisis, increases systemic risk. A single event—such as a major bankruptcy or a wave of commercial real estate defaults—could break this balance, triggering asset revaluations and market turmoil. Policymakers need to address potential crises by increasing transparency, strengthening lending standards, and tackling fiscal imbalances. Otherwise, the 2025 financial market could face a challenge surpassing that of 2008, testing the resilience of the US economy.
