Increased FDIC oversight incoming for CRE bank loans

A recent report from the Federal Deposit Insurance Corporation (FDIC) states that Commercial Real Estate (CRE) lenders are about to come under greater scrutiny. In the report, titled “Supervisory Insights Summer 2022”, the agency adds that there will be an increased focus on new lending activity, along with CRE sectors and geographic areas that are “under stress.”

This comes on the back of a record year, with “the volume of CRE loans held by banks recently peaking at more than USD2.7 trillion.” And while FDIC doesn’t oversee all these institutes, banks supervised by the FDIC account for around USD1.1 trillion of that amount.

Quantifying risk

The agency adds that there will be increased emphasis on transaction testing (i.e. sampling individual lending transactions), saying:

“Given the uncertain long-term impacts of changes in work and commerce in the wake of the pandemic, the effects of rising interest rates, inflationary pressures, and supply chain issues, examiners will be increasing their focus on CRE transaction testing in the upcoming examination cycle.”

Areas of concern 

During 2021, FDIC examiners noted some specific CRE loan concerns, including poor risk analyses and improper assessments of whether loans could be successfully repaid. For example, some assessments failed to check whether a borrower’s business would be able to repay the loan when stimulus or other relief funds were no longer in the balance sheet.

Another area where some banks seemed to fall flat was in conducting a thorough and up-to-date analysis of prevailing market conditions. The agency added that examiners also saw cases where banks have “applied segmentation techniques ineffectively” or “have not drawn conclusions from the analyses performed.”

CRE lending outlook

Specific sectors identified as challenging for valuation in 2021 included some hospitality properties, offices, and malls, along with “some geographies, such as the Manhattan borough of New York City, [which] lagged.” In a Bloomberg article on the report, Brandywine Global portfolio manager, Tracy Chen added that “there are some challenges in pockets of CRE debt, such as offices and retails.”

In an environment where some banks have already announced cutbacks on CRE lending, the additional scrutiny may mean those lenders adopt an even more cautious disposition, especially for sectors they consider “high risk.”

Have there been any effects from changing lending policies on deal-making in your area?

New data shows declines in national distress rates

New data from commercial real estate (CRE) data provider CRED iQ shows the delinquency rate for commercial mortgage-backed securities (CMBS) continued its downward trend in June 2022, dipping to 3.30%, marginally down from 3.32% the previous month.

CRED iQ regularly monitors distressed rates and market performance for nearly 400 Metropolitan Statistical Areas (MSAs) across the US, an enormous data set that includes some $900 billion in outstanding CRE debt.

Month-by-month improvements
In the report, they’ve laid out distressed rates and month-over-month changes for the month of June 2022, for the 50 largest MSAs, as well as a breakdown by property type (see below). “Distressed rates (DQ + SS%),” they write, “include loans that are specially serviced, delinquent, or a combination of both.”

Standout areas
Of the top 50 MSAs, some 43 showed month-over-month improvements “in the percentage of distressed CRE loans within the CMBS universe”. New Orleans (-9.57%) and Louisville (-3.41%) were two of the MSAs with the acutest declines [in distress rate] this month.

On the other end of the scale, Charlotte (+1.15%) and Virginia Beach (+1.12%) were among the seven MSAs showing increases in distress rates last month.

By property type
“For a granular view of distress by market-sector”, the report also delves into distress by property type, which potentially holds strategic insight for regional commercial real estate professionals.

“Hotel and retail were the property types that contributed the most to the many improvements in distressed rates across the Top 50 MSAs,” they detail. “Loans secured by lodging and retail properties accounted for the 10 largest declines in distress by market-sector. This included the lodging sectors for New Orleans and Detroit as well as the retail sectors for Tampa and Cincinnati.”

SOCIAL: What data metrics do you find most useful for understanding the health of CRE in your region?

Another lender announces slow down for CRE credit

Credit for commercial real estate (CRE) looks to be entering a crunch state in the second half of 2022 as a number of the big lenders announced in July that they were pulling back in that sphere.

The latest to make such an announcement are Signature Bank and M&T Bank. The former said it “expected to cut back on lending for multifamily and other commercial real estate assets”, and the latter laid the blame squarely at the feet of higher interest rates in its decision to make “fewer CRE loans this year”.

Construction slump

M&T’s CRE loan balances decline by 2%, or $830m in Q2 2022, as reported by the Real Deal, who extracted key takeaways from an earnings call hosted by M&T chief financial officer Darren King. King reportedly specified that construction loans declined, alongside a decline in completed projects and new developments coming online.

Interest rates and inflation

King said the rates moves were “affecting cap rates and asset values” and that they were “not seeing the turnover in properties like you might have under normal circumstances. And that will affect the pace of decline and our growth in permanent CRE.”

According to BisNow reporting, “Interest rates, raised in an attempt to beat back record-high inflation, have contributed to a drop in investment volume from the highs of 2021 and early 2022, slowing CRE deal volume”.

Global pressures

In broad term, these economic conditions are seen at varying rates around the world right now. As S&P’s recent update explains: “Economic growth is slowing. Interest rates remain stubbornly high. Estimates of the risk of recession or even stagflation creep upward and questions persist on whether central banks are under- or over-reacting in pursuit of monetary normalization.”

Additionally, on the residential side, their PMI research indicates “a steep contraction in demand for real estate amid tightening financial cost of living”.

Social: How is the rising cost of living playing out in your market?

CRE 2022: Positive metrics for the first six months

A new report out from JP Morgan Chase provides an interesting mid-year review for commercial real estate (CRE), showing positivity in the first half of 2022, despite the various headwinds the industry faces.

“Despite rising interest rates—with the potential for more hikes in the coming months—commercial real estate has seen success in 2022,” writes Al Brooks, Head of Commercial Real Estate, Commercial Banking at JPMorgan Chase.

Giving retail a boost
Even the beleaguered retail space has some standouts, according to JPMorgan. The report highlights a handful of factors that have bolstered strip malls in highly populated residential areas, underpinned by the likes of “grocery stores, fast-casual restaurants, and other retailers offering in-person services”, reads MPAMag’s coverage of the findings.

“JPMorgan observed that walk-in MRIs, testing clinics, and other non-traditional tenants may fill more shopping centers as retail evolves and adapts,” they add.

Class B and C malls, however, “continue to struggle” and the report authors call them “prime candidates for adaptive reuse” – into affordable housing and even industrial use, like fulfillment centers.

Industrial still booming
Given the huge demand for industrial space – a trend that continues unabated – the report posits that we may start to see this category of property maturing in interesting ways. This could include adding the kinds of facilities and amenities which we associate with offices, such as gyms, complimentary snacks, nursing rooms, and so on.

This would fit with the evolution towards “multiple business purposes” within industrial sites, “such as a shipment center with offices or a showroom”, according to the report authors.

Casting forward
As for the next six months, the report has a tone of tentative positivity, writing: “Multifamily and industrial properties have thrived in 2022. With healthy balance sheets, consumer demand could bolster retail, multifamily and industrial asset classes.”

But, they say, they’re keeping an eye on how “the country navigates hybrid work” and “on interest rate hikes, supply chain issues and geopolitical events, as well as ongoing relationships between public and private entities in affordable housing”. 

For more information, and a link to the webinar replay, click here.

Social: What was the state of CRE in the first six months of 2022 in your region?

What’s happening in… Hamilton, NZ?

New Zealand’s city of Hamilton – or Kirikiriroa in Maori – sits on the banks of the famous Waikato River which features heavily in its sights and site. In this city known for its beautiful greenery and walks, the most popular tourist attraction is the 54-hectare Hamilton Gardens.

With a population of just under 200,000 people, Hamilton is the fourth most populous city in the country. In 2020, it was named ‘most beautiful large city in New Zealand’. The wider Hamilton Urban Area includes Ngāruawāhia, Te Awamutu, and Cambridge, which collectively cover some 110 square kilometers of land. It is also the third fastest-growing urban area.

Leading industries and outputs

Hamilton’s economic heritage is as an agricultural services hub, particularly dairy cattle, and vegetable farming, but it also has thriving business services, construction, and health and community services. Additionally, R&D is an emerging sphere, given the city’s high tertiary educated population.

Residential market factors

New Zealand has typically seen high demand and low supply for residential housing in recent years which has kept prices elevated. There are, however, some movements in the markets, and new regulations around lending coming into play that could mean fewer residential buyers would qualify and those that do could be in for “bargains” in 2022 – according to a January 2022 report from Stuff.co.nz citing Mortgage Lab chief executive Rupert Gough.

Additionally, Realestate.co.nz recently reported new house listings in November 2021 were hitting their highest level in seven years, and Stuff.co.nz added that data from Infometric showing consent and permissions for new build projects were also much increased, compared year on year.

The latest CoreLogic Home Price Index (HPI) report shows that property values have declined in Hamilton, where housing values were down 0.9% in March.

Commercial property outlook

New property rating valuations from Hamilton City Council – released in April 2022 – put the city’s worth at NZ$ 71.4 billion.

Our Hamilton reports that the city’s “total property Capital Value (the total value of the land and any buildings on it) increased 53%, and Land Value 67% since 2018”. “On average,” the article continues, ‘Capital Values for commercial and industrial property have increased by 40% across the city”.

Insight from NAI Harcourts in the country suggests that industrial will remain “the darling of the three commercial property sectors”, but also that there is momentum in the Hamilton office market, which they characterized as coming from a “flight to quality” that was pushing local business in the central business districts to up their game.For more regional insight, contact NAI Global’s partners in Hamilton and surrounds.