Connect CRE recently reached out to economic experts for insights on lenders and banks in the third article of their four-part series. The first two articles, “Economic Recap and Federal Reserve Actions” and “Understanding the Mixed Signals: Analyzing the Economics of Labor and Spending,” are now available.
In early 2023, there was widespread concern when Silicon Valley Bank and Signature Bank closed their doors. A year later, in April 2024, Republic First Bancorp was seized by the Pennsylvania Department of Banking and Security with Fulton Financial acquiring its debts and deposits.
One contributing factor to Republic First’s downfall was higher interest rates that affected its commercial real estate portfolio which made up nearly half of its loan book.
However, contrary to predictions in early 2023 about a potential decline in the banking industry following these failures (and more recent seizure), economic experts assure that overall bank strength remains strong. They note that while some institutions may be less inclined towards commercial real estate investments at this time, it is unlikely for major disruptions or collapses within the banking system to occur.
The Pinpricks
According to Ryan Severino from BGO as well as other economists interviewed by Connect CRE , larger banks could potentially experience significant losses under severe adverse scenarios according to reports from Dodd-Frank Act Stress Test 2024 conducted by Federal Reserve . However they also noted that these banks would still maintain required minimum regulatory levels for common equity tier one capital ratios despite such losses being projected at around a decrease of approximately three percent due partly due shifting towards riskier loans as well an increase delinquencies among credit card balances. Additionally concerns were raised over growth seen among commercial industrial loans which accounted roughly sixty percent all outstanding balances according Fed .
Jonathan O’Kane , Vice President Chandan Economics provided further insight into this issue explaining how debt related financial institutions has increased significantly since just few years ago going $1 trillion back then compared current amount exceeding $3 trillion. He also pointed out that Trepp, Inc.’s Research Director Stephen Buschenbom shared similar concerns stating how as long interest rates remain high there will likely be continued deterioration loan performance especially within commercial real estate sector.
While larger banks have been able to increase their loan-loss provisions (cash reserves set aside cover potential losses from default loans), smaller regional community banks have not done so at same level according to Eric Enloe Partner Valuation Advisors’ Senior Managing Director. This raises question whether these institutions are better positioned with safer portfolios or if they may end up being under-provisioned for future defaults among CRE loans.
Eric Enloe also acknowledged that office sector continues generate significant concern over maturities and defaults while noting banking exposure towards this asset class has become more diverse recent years however he still believes we haven’t seen full effects yet value degradation due complete shift demand dynamics experienced past five years .
What To Expect
Experts interviewed by Connect CRE provided varying perspectives on what the future holds for the banking industry. While some like Ray Perryman , President of The Perryman Group, do not anticipate a widespread meltdown despite potential vulnerabilities related interest rate exposure debt maturities others such as Jonathan O’Kane express greater concern about possibility distress occurring within industry given current conditions although it is difficult predict exactly when or how severe any crisis might be should one occur.
Ryan Severino noted that while reforms implemented last year appear hold up well overall it’s primarily smaller regional banks which continue struggle problematic loans balance sheets negative selection bias phenomenon leading less diversification lower quality collateral compared larger counterparts who seem fairing much better during this time period . Omar Eltorai director research Altus Group expects changes take place mostly among these smaller institutions next one three years resulting corporate consolidations stemming challenging operating environment combined trapped capital in their respective loan portfolios .
