New Credit Losses Could Weigh Further on Banks

MBA (9/12/2008 ) Murray, Michael
Third quarter reports from banks will not only show more loan losses from residential subprime lending and commercial real estate but other forms of credit as well, industry analysts said.

“I think the pain has the potential of being huge, at least as bad as the 1970s, early 1980s. Quite possibly as bad as the 1930s,” said Rick Williamson, principal of WLJ Partners LLC, Coral Gables, Fla., an investment fund specializing in distressed commercial real estate debt.

Williamson said aggressive commercial real estate lending from 2005-2007 combines with economic concerns to create an unstable market.

“Loans made on the come, interest-only payments, loans made on pro formas that projected continuously growing rents, indeed required continuously growing rents just to pay interest, forget amortizing the principal," Williamson said. "As an example, look at the news out of New York about several large multifamily projects in trouble."

Bloomberg reported on Wednesday that Brian Moynihan, president of global corporate and investment banking at Bank of America Corp., New York, said home builders are unable to repay their loans, contributing to deterioration among commercial borrowers.

Moynihan said Bank of America's commercial loans were $335 billion as of June 30, and a home-builder portfolio accounted for less than 4 percent, but more than half of Bank of America’s $13.4 billion in loans to builders are considered troubled, 19 percent are not paying interest and losses are likely to mount.

“Even if the woes remain limited to homebuilders, that would mean a likely $7 billion in writeoffs,” said Mike Shedlock, investment advisor representative for SitkaPacific Capital Management. “Now what about financing of malls, retailers, office space—a modest 10 percent writeoff across the board, highly likely, would mean another $33 billion in writeoffs are coming from commercial real estate. And what about further consumer losses in credit cards and home equity lines?”

A report from Experian, Costa Mesa, Calif., showed the rate of new severely delinquent mortgages among business owners increased 57 percent during the period of the study, April 2007 through April 2008.

“The new severe delinquency rate for business owners is 2.08 percent,” said Kerry Williams, group president of Experian's credit services and decision analytics. “As many as 312,000 business owners were in trouble with their home loans. However, businesses are willing to sacrifice their homes in order to keep their businesses and maintain steady income flow.”

Industry analysts said that as credit tightens and mortgage-backed securities remain stalled, refinance activity also becomes more difficult.

“Don’t forget about maturing loans," Williamson said. "Where do they get refinanced? The securitization market is dead. How many new commercial real estate loans is Lehman Brothers making?”

“Investor concerns are real based upon what the ‘headline risk’ is telling us in both pricing and performance,” said Frank Innaurato, managing director of commercial mortgage-backed securities at Realpoint LLC, Horsham, Pa. “As delinquencies have increased, and as more aggressive pro-forma underwriting examples are coming to the surface—evidenced by loans such as the Riverton Apartments scenario in Harlem—confidence in overall CMBS collateral performance has declined. More so, with a relative lack of new issuance, a lot of money remains on the sidelines as both property type and market fundamentals are evaluated more deeply, for a more informed investment.”

The next quarter will show if commercial real estate delinquencies continue to rise. The Mortgage Bankers Association reported second quarter commercial mortgage delinquencies increased slightly but remained relatively low in the second quarter. MBA said total CMBS delinquencies increased up to 0.53 percent at the end of June from an all-time low of 0.31 percent one-year earlier.

Based on Realpoint’s property-type rankings within metropolitan site assessments covered on a quarterly basis, Innaurato said CMBS concerns should be focused on specific collateral in given markets,

“In fact, of the markets we cover, only a handful are currently ranked ‘fair’ or ‘weak’ with a ‘declining’ outlook as overall fundamentals have remained relatively stable when looking at rents, vacancy [and] new construction,” Innaurato said.

"Commercial/multifamily mortgages are not seeing the same kinds of deterioration in performance that single-family mortgages, construction and some other types of loans have seen," said Jamie Woodwell, vice president of commercial/multifamily research at MBA.

Banks and thrifts held the most delinquencies—1.18 percent of unpaid principal balances on commercial mortgages were 90 or more days delinquent or in non-accrual in the second quarter, up from 1.01 percent after the first quarter this year, based on MBA’s delinquency report.

Life company portfolios 60 or more days delinquent at the end of the second quarter were at 0.03 percent, up from .01 percent, Fannie Mae was at 0.11 percent, up from .09 percent and Freddie Mac was 0.03 percent for commercial mortgages 60 or more days delinquent, down from .04 percent in the first quarter.

"While delinquency rates for most commercial/multifamily investor groups are slightly higher over the last two quarters, it is important to remember that we are coming off record lows for the past year,” Woodwell said. “The take away is that commercial/multifamily mortgage performance generally remains strong and well within expectations."