Biggest CRE Headache for Banks: Lack of Originals

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In a sense, the prospects for commercial real estate lending are improving.

Housing – the sector hardest hit by the coronavirus pandemic – is making a comeback as people resume travel. Retail is heading in the right direction as consumers start spending money in stores and restaurants. Even the office sector, the wild card of the CRE pandemic, is still holding its ground.

But while fears of massive defaults have eased as the economy continues to improve, CRE lenders now have another concern: weak demand for loans.

Loan disbursements are still far from pre-pandemic levels, and industry observers say demand is likely to remain moderate at least until the end of this year, largely due to companies sitting on so much cash that they don’t need to. take loans. Moreover, competition for quality CRE loans is escalating, threatening to further narrow banks’ lending margins.

“There is a lot of money ready to roll out and there is a lot of competition for new loans,” said Matt Anderson, managing director of Trepp, a data analysis and analytics company that tracks commercial real estate trends. “And that is likely to eat up the juicy profits that the banks may have hoped for.”

Across the industry, total CREs issued for commercial mortgages, construction and land loans remain well below pre-pandemic levels. Among large and mid-sized banks surveyed by Trepp, openings were $ 5.8 billion in the first quarter, down 51% from a year earlier and 63% from the fourth quarter of 2019.

Trepp’s data shows that first-quarter loans declined across all categories, with the exception of commercial mortgages for apartment buildings, construction and land loans for office and retail space.

The data shows that commercial mortgage volumes for office, retail and home loans were only 33%, 42% and 10%, respectively, of the 2019 quarterly averages for each of these categories.

Trepp’s findings are based on loan rate and performance data it collects every quarter from large and medium-sized commercial banks and input to an anonymous loan rate repository called T-ALLR. The data represents almost 10% of all CRE loans from US banks.

In addition to competition, record low interest rates and the flow of deposits in the banking system pose the greatest threat to banks’ net interest margins. There are many excess liquiditybut there is insufficient demand for loans to use these deposits.

Overall industry net interest margin in Q1 decreased to 2.56%The FDIC reported that this is the lowest level ever recorded in the FDIC’s quarterly banking profile. The previous low was 2.68% in the third quarter of 2020. By comparison, in the fourth quarter of 2019, the industry average was 3.28%.

“The anemic credit production that we have seen over the past year has been a contributing factor to the low net interest margins we see in banks,” Anderson said. “Deposits are coming in, but banks for the most part don’t come back and don’t make new loans.”

Factors influencing the demand for CRE loans include higher construction costs caused by supply chain problems and a shortage of skilled labor. Experts say that due to a lack of materials and workers, some developers are postponing construction.

According to Mark Favere, a real estate partner at law firm Greenspoon Marder, banks are facing increasing competition from non-banks for loans. In particular, private equity funds that have sought to provide loans to CREs have been “very aggressive” with their pricing lately, Faver said.

Private equity “can offer loans at lower rates” and have “very high returns,” he said.

Some bankers are optimistic about the growth in demand. Evans Bancorp in Williamsville, NY, with $ 2.1 billion in assets, has a credit line heavily focused on CRE, according to company president and CEO David Nazca.

“We have production, and that will help offset any squeeze in margins,” he said. But, he added, other banks “that do not get a lot of production and sit on large deposits” may face a problem of profitability.

According to Piper Sandler analyst Frank Shiraldi, the increase in volume will help ease the pressure on margins. But he doesn’t expect demand to skyrocket until companies start spending all the money they sit on.

“In the end, we expect the volume of outbound applications to return,” Chiraldi said. “But I think some of those hopes will return to early 2022.”

Perhaps the best news for banks working with CRE is that credit quality has been better than expected, as evidenced by the fact that so many banks are freeing up loan loss provisions they created at the start of the pandemic. …

“We are doing pretty well in terms of credit losses on the CRE book,” said Don McCree, head of commercial banking at the $ 187 billion Citizens Financial Group in Providence, Rhode Island.

“In the middle of last year, we did some major write-offs on multiple disclosures in shopping malls, so that is behind us and we feel we can see any future losses of CRE,” McCree said during his speech to the conference this month. “You can always have a surprise, but we think the situation is stabilizing pretty well.”

Pittsburgh-based PNC Financial Services Group posted loan loss provisions in the first quarter, but the $ 560 billion company “actually continued to build up reserves for the real estate sector,” Chairman and CEO William Demchak said at a separate industry conference. also held this month.

“There are still clients who are in pain,” Demchak said. “We are well booked for this, but I think it will last for a very long time.”

For many banks, the office sector remains a big question mark. How the pandemic will affect plans to return to the office and how much work space employers will or may not need remains to be seen.

“There are concerns that the office is a little reinforced by the fact that office leases tend to be long term,” Chiraldi said. “In general, this is a type of property that may take a little longer to get a credible reflection of what the values ​​are.”



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