Focus: Real estate pain for US regional banks is piling up, say investors

OceanFirst Financial

12/02/2024 11:00

By Carolina Mandl, Matt Tracy and Saeed Azhar
       NEW YORK/WASHINGTON, Feb 12 (Reuters) - New York
Community Bancorp's  NYCB.N  exposure to commercial real estate
has intensified investor scrutiny around regional banks, with
some expecting more pain for those with office and multifamily
property loans.
    Fears about the health of the smaller banks have escalated
again a year after the collapse of Silicon Valley Bank in spring
of 2023 triggered a regional banking crisis. 
    NYCB's recent earnings release which sparked a dive of about
60% in its shares has particularly focused investors on combing
through portfolios of regional banks, as small banks account for
nearly 70% of all commercial real estate (CRE) loans
outstanding, according to research from Apollo.
    “As long as interest rates stay high, it's hard for the
banks to avoid problems with CRE loans," said short-seller
William C. Martin of Raging Capital Ventures, who decided to
place a bet against NYCB after the bank's disastrous Jan. 30
earnings release which detailed real estate pain and led him to
believe that shares could sink further on more real estate
losses.
    Martin, who shorted Silicon Valley Bank last year before its
collapse, said he shorted NYCB because he thought its earnings
power would be diminished and that it might have to raise
capital. NYCB said on Wednesday that a capital increase is an
option, but that it has no plan to do this "right at the
moment." 
    The bank declined to comment on the short-seller's view.
    "The regional banks ... (are) doubly more exposed to rates,"
said Dan Zwirn, co-founder and CEO of distressed debt investment
firm Arena Investors, who is avoiding real estate for the next
year or two, citing in part higher risk of default. The KBW
Regional Banking index  .KRX  is down around 11% since NYCB's
announcement.
    The CRE market has been hit by the repercussions of the
COVID-19 pandemic. Delinquency rates on commercial
mortgage-backed securities (CMBS) are expected to rise to 8.1%
in 2024, according to Fitch, as many companies struggle to
convert remote and hybrid-working employees. Meanwhile CMBS loan
delinquencies in commercial multifamily - housing properties
with more than five units - are expected to touch 1.3% in 2024
versus 0.62% in 2023.
    CRE has also faced pressure from higher interest rates where
roughly $1.2 trillion in commercial mortgages are set to mature
this year and next, Goldman Sachs research showed.
    Some have also assigned greater risk to commercial
multifamily assets in New York City. 
    Unique to NYCB is its role as a major lender to
rent-stabilized landlords in New York City. More than half of
its total multifamily loan portfolio is secured by properties in
New York state, many of which are subject to rent regulation
laws, the company has said. The default rate on New York’s
rent-stabilized housing has historically been low, but has risen
from 0.32% in April 2020 to 4.93% in December 2023, impacted by
the pandemic and a 2019 law limiting landlords' ability to raise
rents, said Stephen Buschbom, research director at real estate
data provider Trepp.
    As banks start taking up provisions for their New York
property more broadly, “you could have a possible next wave of
the crisis that began unfolding last year," said Nate Koppikar 
of Orso Partners, who is short banks that have outsized CRE
exposure. He declined to elaborate.
            
    HIGH CONCENTRATION 
    Some investors are focused on those banks with high
concentration of real estate loans. Martin said he was also
short OceanFirst  OCFC.O , and had been short Valley National
 VLY.O , but he closed his position this month after pocketing
gains. 
    Both banks, as well as NYCB, have CRE holdings as a
proportion of total risk-based capital above 300% according to
data from Trepp. That level of 300% may indicate a lender is
exposed to significant risk of CRE concentration, according to
public guidelines from the Federal Deposit Insurance Corporation
(FDIC). The FDIC did not respond to a request for comment. 
    Valley's CRE holdings as a proportion of its total
risk-based capital was at 479% in the fourth quarter, while
OceanFirst was at 447%, Trepp's data showed. As of the third
quarter, NYCB had a ratio of 468%.
    In total, nearly 1,900 banks with assets less than $100
billion had CRE loans outstanding greater than 300% of equity,
according to Fitch.  
    Fitch, in a detailed report in December, also said if prices
decline by approximately 40% on average, losses in CRE
portfolios could result in the failure of a moderate number of
predominately smaller banks.
    OceanFirst told Reuters it has a "widely diversified
portfolio" with very low levels of concentration in central
business district office and rent-stabilized multifamily and
said short selling interest in the stock is low.
    NYCB did not immediately respond to a request for comment on
the short selling and concentration risk. Valley's deputy CFO
Travis Lan said the bank is "comfortable with our diverse and
granular commercial real estate portfolio" and said the bank
"prioritized balance sheet diversity." 
    
    LOAN SALES
    Investors predict that some regional banks could be forced
to sell loans at a loss or increase provisioning for losses. A
distressed debt investor said that some regional banks with
exposure to New York City's rent-stabilized multifamily loans
have begun exploring sales of these and other assets.
    NYCB said on Wednesday options could include loan sales and
that the bank "will be razor-focused on reducing our CRE
concentration." 
    But selling loans may not be an optimal solution with
properties now valued 50%-75% below their valuations at the time
loans were struck, said Rebel Cole, a finance professor at
Florida Atlantic University.
    "Loans that were done over the last five to seven years, a
lot of those are challenged now," said Ran Eliasaf, founder and
managing partner of real estate investment firm Northwind Group,
who is investing in the New York multifamily market.     
    

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 (Reporting by Carolina Mandl and Saeed Azhar in New York and
Matt Tracy in Washington
Editing by Shankar Ramakrishnan, Megan Davies and Matthew Lewis)
 ((Matt.Tracy@thomsonreuters.com;
Saeed.Azhar@thomsonreuters.com))