Banks And Commercial Real Estate

By Eric Fox | June 04, 2009 AAA

The conventional wisdom is rapidly becoming that the worst is behind us in the residential housing market, and that things are bouncing along the bottom. Some optimists even believe this market is beginning to recover.
The view of the commercial real estate (CRE) market is a little different. Its problems lagged the residential housing market, and has just recently started to see delinquencies increase, and values head down.

IN PICTURES: Top 7 Bank Failures in U.S. History

A recent report from Standard and Poor's said that the commercial mortgage-backed securities (CMBS) delinquency rate is approaching the peak it reached in December 2003, when it was 1.96%. By sub sector, the delinquency rates were as follows:

Multi Family – 3.42%
Office - 1.23%
Retail – 1.89%
Lodging – 2.26%
Health Care – 0.71%
Industrial -1.41%

Many banks have high exposure to CRE relative to tangible capital levels.

Zions Bancorp (NYSE:ZION) has a large CRE loan portfolio, equal to four times its tangible equity, according to Moody's Investors Service, a division of Moody's Corp (NYSE:MCO). Sixty percent of these loans are in the construction and land development portfolio, which have higher losses than others.

The bank is attempting to raise capital to meet these challenges. Zion is offering up to $250 million of stock, and will convert some subordinated notes to preferred stock as well.

Huntington Bancshares (Nasdaq:HBAN) CRE loan portfolio is more than five times its tangible equity. The bank also raised capital and recently conducted what it calls a Discretionary Equity Issuance Program, where it seeks to raise up to $350 million by offering stock in open market transactions.

M & T Bank (NYSE:MTB) has a CRE loan portfolio that is six times its tangible equity. The bank reported that its percent of loans in non-accrual status for its entire portfolio as a percent of total net loans was 2.05% at the end of the first quarter of 2009. Although this is higher than normal, the market apparently believes that the bank's high underwriting standards will allow it to manage its way through the rest of the recession, and the stock is up strongly from the March lows.

M & T even felt strong enough to buy a competitor, as it just closed on its purchase of Provident Bankshares Corporation. Provident had $6.5 billion in assets.

PNC Financial Services Group (NYSE:PNC) was one of the banks subject to the Supervisory Capital Assessment Program (SCAP), or stress tests, conducted by the U.S. Treasury. Yet, the bank was easily able to raise the $600 million in capital required by the government.

The Bottom Line
Available data seems to indicate that the hammer is about to fall on CRE, and thus also on the banks that hold loans in this area. The market doesn't seem to care, however, and after being shunned for two years, everyone wants to own banks again. (Read Buy When There's Blood In The Streets, to learn how contrarian investors find value in the worst market conditions.)

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