Last week, I wrote about the looming commercial real estate (CRE) banking crisis and how it will impact regional or community banks.
As I noted, neither the Federal Reserve nor its Chairman Jerome Powell appear bothered about it. But there is one body in Washington that is paying close attention.
It’s the Securities Exchange Commission (SEC).
The SEC launched inquiries into four regional banks this month. These banks are MainStreet Bancshares Inc., Alerus Financial Corp., Mid Penn Bancorp Inc., and Ohio Valley Banc Corp.
Each of these banks holds total assets below $10 billion. That means they are classified as community banks by the Federal Reserve for the purpose of risk management.
That means they are more carefully scrutinized for high-concentration risk in any one area.
All four banks have a higher exposure to the CRE sector than the rest of the U.S. banking industry. That’s according to a new report from S&P Global Market Intelligence data.
Let me break that down.
Anatomy of a Brewing Commercial Real Estate Loan Problem
In late 2023, Fairfax, Virginia-based MainStreet Bank, the banking unit for MainStreet Bancshares, had the highest concentration of CRE loans of the four, at 43.1%.
Second place went to Millersburg, Pennsylvania-based Mid Penn Bank. It’s a subsidiary of Mid Penn Bancorp. Its CRE loan concentration was 41.9%.
The banking subsidiaries for Grand Forks, North Dakota-based Alerus Financial, and Gallipolis, Ohio-based Ohio Valley Banc, hold CRE concentrations of 30.4% and 19.3%, respectively.
In comparison, the industry aggregate was half that, or 14.6%.
The four banks’ exposure to multifamily loans was also higher than the industry average of 4.9%. MainStreet Bank had the highest concentration at 15.7%.
Here’s the problem with all of that.
As I wrote last week, CRE loan delinquencies have risen this year. Office and multifamily loans are a large part of that. These types of loans comprise the bulk of community and regional bank CRE portfolios.
Banks must set aside reserves (money) in case loan payments don’t come in as anticipated. The more loans become delinquent or default, the more money banks must set aside.
Until they can’t. That’s when banks sell off loan portfolios or other assets to raise money – or go bankrupt when they can’t sell enough to keep afloat.
That’s why the SEC needs more information on banks at risk.
The SEC Wants More CRE Detail
The SEC requested more detailed CRE loan disclosures from these four community banks.
It asked Alerus Financial, Mid Penn Bancorp, and Ohio Valley Banc to insert more detailed CRE loan portfolio breakdown information into their reports.
They want more detail on borrower type, geographic concentrations, and other characteristics such as owner-occupied and nonowner-occupied properties and occupancy rates.
Both Alerus Financial and Mid Penn Bancorp agreed.
Ohio Valley only partially did. It agreed to break down its CRE loans by industry. However, it refused to disclose loan-to-value ratios or occupancy rates. It claims that it can’t because its data processing system can’t provide such detail.
That’s a big red flag to me. If the SEC wants that information, altering a program to provide it shouldn’t be a big deal. And if the bank doesn’t have it, it should – because it would give the bank a better picture of its exposure to distressed loans.
Make no mistake. There’s more danger looming for CRE loans and banks holding them.
California-based real estate data firm ATTOM reported that U.S. commercial property forecloses doubled over the prior year. They rose by 17% between December 2023 and January 2024.
Foreclosed properties don’t make loan payments. Rising foreclosures mean more distressed loans. There’s a sign of a looming commercial loan crisis.
There’s one more. Enter Wall Street’s bottom feeders.
Financial Bottom Fishing
Regular readers know I spent 15 years in the investment banking industry, splitting my time between Wall Street and London.
In the investment banking world, we call private equity firms “bottom fishers” or “bottom feeders.” That’s because they dive in to buy the lowest-valued distressed loans possible.
And today, one firm stands out to me: Maverick.
Last week, private equity firm Maverick bought $275 million worth of Silicon Valley Bank loans. Another investor group spearheaded by Blackstone had initially purchased them when Silicon went belly-up last March.
Buildings in Manhattan, Brooklyn, and Queens back these eight loans. Each area faces declining office vacancy rates. That means these loans are likely distressed.
Maverick is considered a king of distressed commercial real estate debt. They buy troubled loans, jack up the interest rates, and sell the underlying property or the higher-interest loans to the highest bidders in the private equity food chain.
Maverick opened shop in the wake of the 2008 financial crisis. Back then, banks were carrying distressed subprime loans on their books.
In 2010, Maverick began buying those loans cheap from banks desperate to get any cash they could. Maverick made money by charging exorbitant rates to the loan holders or selling the underlying property off and retiring the loans.
Last week, I told you that NYCB was downgraded due to its purchase of Signature Bank assets. Those assets included $13 billion worth of loans.
The plot thickens if you go back six years before that.
Enter Maverick again.
In 2017, Maverick bought $40 million in distressed loans from Signature Bank. Those loans were backed by a Brooklyn property portfolio owned by a midsize landlord accused of running a Ponzi scheme. That means they came at a deeply discounted cost.
The whole exercise, in hindsight, indicated that Signature was already having loan problems back then. It was a sign that more problems could come. And sure enough, they did.
The CRE Loan Train Wreck Continues
Once the Fed raised rates quickly and aggressively starting in March 2022, loan costs, loan delinquencies, and defaults rose. Treasury assets dropped in value. Depositors extracted their money. Signature failed.
There’s more. When Signature failed, as I mentioned, now-flailing bank NYCB bought a $13 billion chunk of their loans plus other assets. But it didn’t buy all of them.
The FDIC had to take over $11 billion of “toxic waste” loans that no one wanted. And guess what? Multifamily apartment buildings in New York City backed those loans.
Multifamily loan delinquency rates are expected to double this year. That figure would eclipse their post-Covid peak. Banks with exposure to multifamily loans are at risk.
If history is a guide, the fact that Maverick is buying chunks of distressed commercial loans means there are more problems brewing in the commercial real estate sector. Otherwise, Blackstone would have held onto their loans.
Plus, office vacancy rates are rising. This means less cash flow to office loans and lower office building values. Multifamily commercial loan delinquencies and defaults are also rising.
That means we have a recipe for another banking crisis.
I advise you to avoid regional banks, especially those with high concentrations of CRE loans.
If you have money in community or regional banks, please consider dividing it across multiple banks. That diversification means that if your bank goes belly-up, your stress levels – and your money – will be better protected.
Regards,
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Nomi Prins
Editor, Inside Wall Street with Nomi Prins