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Commercial real estate got some indirect bad news.

The Securities and Exchange Commission sent letter exchanges to several community or regional banks about potential exposure to CRE loans, as the Wall Street Journal reported.

The agency contacted Alerus Financial and the holding companies behind Mid Penn Bank, Ohio Valley Bank and MainStreet Bank. The letters were “to request more clarity in their disclosures around the potential consequences from the failures of First Republic Bank, Silicon Valley Bank and Signature Bank.”

The three banks were closed and put into receivership by the Federal Deposit Insurance Corporation. Certain long-term bond assets that the banks held lost a lot of value as the Federal Reserve drove interest up in an attempt to curb inflation. When interest rates rise, bond values at previous lower interest rates lose value. These bonds were classified by the banks as held-to-maturity, meaning they could be treated as keeping their face value. But concerned depositors pulled large amounts of money out of the banks. That forced the institutions to sell bonds, which then were marked to market, losing liquidity and pushing the banks toward insolvency.

CRE loans aren’t the same as bonds, but there are two ways they could lose value. One is that increased interest rates could put borrowers with loans coming to maturity into a position where they can’t get refinancing. The lending bank would at least have to modify the loan, which could affect depositor trust and willingness to leave their deposits in place. Or the borrower could outright default.

The other way they could suddenly lose value is if the valuation of the property dropped — something happening broadly across all asset types, as GlobeSt.com has reported. That could leave the loan underwater, increasing risk and leaving depositors concerned and, again, possibly pulling out money and threatening the bank’s liquidity and potentially solvency.

Small, mid-size, and regional banks were the originators of many of the existing CRE loans. Unlike consumer mortgages, the banks don’t sell off the loans, leaving them holding all the risk.

“The SEC is worried that some of the banks may not be disclosing as much of their risk or exposure as they should to their investors,” Kenneth Chin, a partner at law firm Kramer Levin Naftalis & Frankel, told the Journal.

The SEC asked the banks to provide a more specific breakdown of CRE loan portfolios by property type, geography, and other factors.

Although the SEC has only made direct requests of these banks, the thousands of other institutions could see this as a pressure they too could face. Banks might further restrict their lending activity in 2024, increasing scrutiny and tightening underwriting standards, like loan-to-value ratios, even more than has previously happened.

 

Source:  GlobeSt.

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A new Federal Reserve report noted that banks continue to get nervous overall and in particular about commercial real estate.

“Regarding loans to businesses, survey respondents reported, on balance, tighter standards and weaker demand for commercial and industrial (C&I) loans to firms of all sizes over the second quarter,” the report said. “Meanwhile, banks reported tighter standards and weaker demand for all commercial real estate (CRE) loan categories.”

The reactions to CRE lending was similar levels of tightening by large banks and others.

The July Senior Loan Officer Opinion Survey on Bank Lending Practices, or SLOOS, got responses from 66 domestic banks and 19 U.S. branches and agencies of foreign banks. Surveys went out on June 15, 2023, and were due back June 30, so all the data is more than a month old. It may be that conditions aren’t changing quickly enough to reduce the information’s meaning.

That said, according to the Federal Deposit Insurance Corporation (FDIC), as of the first quarter of 2023, there were 4,672 FDIC-insured institutions and 3,006 FDIC-supervised, so even though a concentration of the largest banks responding to the Fed’s survey might well be descriptive of that segment, the remainder isn’t nearly large enough for a comprehensive look at the banking industry.

The survey included two special sets of questions. One was about current lending standards compared to the midpoint of a range they have been in since 2005. The other question was bank expectations for changes in their standards in the second half of the year and the reasons for any change.

In the second quarter, “major net shares of banks” said they had tightened their standards on all categories of CRE loans. The same degrees of tightening were reported by large banks and other banks, though, again, without a representative sample, it’s impossible to say whether a majority of all banks were doing so.

Additionally, banks were largely reporting that there was weaker demand for all CRE loan categories. This was more pronounced in banks that were not the largest. Foreign-based banks reported similar responses on both questions.

According to the sample, standards tightening isn’t over. Major net shares of banks said they expect to tighten standards on construction and land development loans as well as on nonfarm, non-residential loans.

A moderate net share of banks said they would tighten standards on all residential real estate loan categories, including those that are GSE-eligible.

Also, the number of FDIC-insured and -supervised institutions in the first quarter of 2022 were 4,796 and 3,100 respectively. In the first quarter of 2021, there were 4,978 and 3,209. And in the first quarter of 2020, 5,116 and 3,303. While not a survey, the progression offers a partial different view of how the industry might be doing.

 

Source: GlobeSt.

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Commercial and multifamily mortgage delinquency rates rose in the first quarter and in some cases the rate of increase in recent months has picked up steam, signaling growing problems for mortgage holders.

Loans held in commercial mortgage-backed securities had the highest delinquency rate, according to the Mortgage Bankers Association. Moreover, those rates have been rising steadily in the second quarter, according to bond rating agencies that track the data monthly.

However, it was banks and thrifts that saw the largest jump in the most seriously delinquent loans in the first quarter.

Bank and thrift loans 90 or more days delinquent or in non-accrual status jumped 0.13 percentage points from the fourth quarter of 2022. Those loans now make up 0.58% of outstanding commercial and multifamily loan balances, according to the MBA.

“Ongoing stress caused by higher interest rates, uncertainty around property values, and questions about fundamentals in some property markets are beginning to show up in commercial mortgage delinquency rates,” Jamie Woodwell, MBA’s head of commercial real estate research, said in a statement. “Delinquency rates increased for every major capital source during the first quarter, foreshadowing additional strains that are likely to work their way through the system.”

The banking industry continues to face significant downside risks and the Federal Deposit Insurance Corp. said they will be stepping up ongoing supervision of banks’ loan quality.

“Credit quality and profitability may weaken due to these risks and may result in a further tightening of loan underwriting, slower loan growth, higher provision expenses, and liquidity constraints,” FDIC Chairman Martin Gruenberg said in a statement about the industry’s first-quarter results. “Commercial real estate portfolios, particularly loans backed by office properties, face challenges should demand for office space remain weak and property values continue to soften.”

The Mortgage Bankers’ quarterly analysis looks at commercial and multifamily delinquency rates for five of the largest investor-groups: commercial banks and thrifts, commercial mortgage-backed securities, life insurance companies, and Fannie Mae and Freddie Mac. Together, these groups hold more than 80% of commercial and multifamily mortgage debt outstanding.

Based on the unpaid principal balance of loans, delinquency rates for the other four groups at the end of the first quarter of 2023 were as follows:

  • Life company portfolios (60 or more days delinquent): 0.21%, an increase of 0.10 percentage points from the fourth quarter;
  • Fannie Mae (60 or more days delinquent): 0.35%, an increase of 0.11 percentage points;
  • Freddie Mac (60 or more days delinquent): 0.13%, an increase of 0.01 percentage points;
  • CMBS (30 or more days delinquent or foreclosed upon): 3%, an increase of 0.10 percentage points.

The latest CMBS numbers show a quickening of deteriorating loan quality, according to S&P Global Ratings.

The U.S. CMBS overall delinquency rate rose 0.39 basis points month over month in May, the bond rating firm reported. This was the largest increase since June 2020 when the coronavirus pandemic had shut down many offices, hotels, and retail centers across the country for weeks.

By dollar amount, total delinquencies rose to $22.9 billion, a net increase of $2.8 billion month over month and $3.9 billion year over year. Seriously delinquent CMBS loans of 60 more days late in payments represented 89.7% of the total, according to S&P.

Delinquency rates for office loans increased 1.2 percentage points to 4%, according to S&P. That was the fifth consecutive month of increase and now stands at $7.2 billion.

 

Source:  CoStar