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NEIL CALLANAN
The stock market is growing more sanguine about US regional banks, but the lenders still face serious pressure.
A credit “contraction is invariably coming,” Soros Fund Management Chief Executive Officer Dawn Fitzpatrick said at this week’s Bloomberg Invest conference, adding that additional banks will fail because “there are more problems under the surface”.
One further source of trouble for the industry will be commercial real estate, an area that in recent years smaller and regional banks have become a bigger force in.
Working from home has cut into office values and almost $1.5 trillion of commercial property debt is due for repayment before the end of 2025. Meanwhile, rising interest rates have made many properties less valuable.
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“US banks have become much more vulnerable to a decline in commercial real estate prices,” Torsten Slok, chief economist at Apollo Global Management Inc., wrote in an email to clients this week.
The upshot is that 700 US banks now exceed the Federal Deposit Insurance Corporation’s (FDIC’s) guidance from 2006 on commercial real estate loan concentration, he calculated. Two years ago, it was less than half that number. There were about 4,700 FDIC-insured US banks as of the end of March.
The guidelines were introduced in 2006 to address loan concentration and risk management deficiencies among banks in relation to commercial property loans. Those who exceed them are potentially subject to greater supervisory scrutiny, including higher capital levels and heightened risk management practices.
The FDIC declined to comment. Its chairman Martin Gruenberg said last month that potential problems with property portfolios will be a matter of “ongoing supervisory attention” and that “despite the recent period of stress, the banking industry has proven to be quite resilient”.
Small minnows
Some banks are already shrinking their exposure to commercial real estate. PacWest Bancorp, one of the US lenders engulfed in the commotion, is selling a $2.6 billion portfolio of real estate construction loans to shore up liquidity.
“The small minnows” have the “lion’s share of the exposure,” Monsur Hussain, head of research for global financial institutions at Fitch Ratings, said on a webinar this week. “They have approximately 14 per cent of their total assets in CRE exposures, but it can be as high as over 40 per cent of their total assets.”
Any further regional bank failures would likely make credit even more difficult to access for property developers and landlords, especially those who are smaller or lower quality.
The headwinds mean office values are now down 27 per cent on average from their recent peak after falling further in the past month, according to Green Street. The average commercial property is down 15 per cent.
“There’s not much transacting these days because buyers and sellers can’t seem to agree on pricing,” Peter Rothemund, co-head of strategic research at the firm, said in a report this week. “These situations eventually resolve themselves, and usually it’s in favour of the buyers.”
The trouble is also beginning to feed through to the commercial mortgage-backed securities market where about $140 billion of the assets are due to mature this year.
In recent years, an increasing portion of the loans that were packaged into CMBS was interest-only, according to data compiled by Trepp. More than 4 per cent of office loans packaged into the securities were at least 30 days in arrears as of May, according to a recent report by the real estate data firm. That’s the highest level since 2018.
“We expect commercial real estate more broadly to remain under pressure, given the immediacy of the maturity wall at a time where the single-largest lender — regional banks — is experiencing an elevated rate of scrutiny,” Morgan Stanley analysts, including Jay Bacow, wrote this week.
