Commercial loan defaults hit US banks

Source : Business Times - 24 Mar 2009

US banks, battered by record losses from the worst housing slump since the Great Depression, now must weather increasing loan delinquencies from owners of skyscrapers and shopping malls.

The country’s 10 biggest banks have US$327.6 billion in commercial mortgages, which face a wave of defaults as office vacancies grow and retailers and casinos go bankrupt. A projected tripling in the default rate would result in losses of about 7 per cent of total unpaid balances, according to estimates from analysts at research firm Reis Inc.

Commercial property prices are down almost 20 per cent in the past year, and with the global recession worsening, there’s ’significant stress’ in the market, said William Schwartz, a credit analyst at DBRS Inc in New York. Moody’s Investors Service is reviewing the financial strength ratings of 23 regional lenders, as ‘these losses are likely to meaningfully weaken the capital position of many banks in 2009′, said managing director Robert Young in New York.

Bank of Hawaii Corp, City National Corp, Comerica Inc and Sovereign Bancorp Inc were among the companies put on Moody’s list of lenders with a ‘negative outlook’ on March 12, partly because of their ‘risk concentrations’ in the commercial market.

Vacancy rate

Wells Fargo & Co and Bank of America Corp account for about half of commercial mortgages owned by the 10 largest banks, company reports show.

With US unemployment at 8.1 per cent, the highest in a quarter- century, and more than 100,000 people and companies filing for bankruptcy in February, commercial property defaults are poised to rise. That may lift the vacancy rate at office buildings to 16.7 per cent this year from 14.5 per cent at the end of 2008, analysts at New York-based Reis estimate.

‘In the office market, you’re starting to see signs of mammoth job losses,’ said Mark Scott, senior vice-president of NorthMarq Capital LLC, a commercial real estate brokerage and property-management company in Parsippany, New Jersey. ‘And, as people aren’t buying as many goods, they’re not shipping as many goods, so we have stress in the industrial market.’

While the housing boom of the past decade drove banks to issue tens of thousands of sub-prime and option adjustable-rate residential loans, lenders also made cheap credit available to builders and buyers of high-rise office buildings, strip malls and apartment complexes.

The number of retail properties seized by banks or in some state of default rose to 464 this month, more than triple the number on Dec 18, with a total value of US$7 billion, according to Jessica Ruderman, a research analyst at Real Capital Analytics Inc in New York. That means banks aren’t being repaid and are stuck owning properties that have plunged in value.

Wachovia Corp, now owned by San Francisco-based Wells Fargo, foreclosed on the 46-store Bridgewater Falls mall in Hamilton, Ohio in February. The borrower, Indianapolis-based Premier Properties USA Inc, defaulted on an US$80 million loan from Wachovia at the peak of the real estate bubble. Wachovia sold the property to itself for US$33 million, or 59 per cent less than the original loan, after no higher bids emerged at an auction earlier this month.

At the Bridgewater Falls complex about 50km north of Cincinnati, a Target Corp store was the first to open about four years ago, followed by companies including J.C. Penney Co, Best Buy Co and PetSmart Inc, said Julie Krause, the mall’s marketing manager. Premier Properties, the site’s former owner, filed for bankruptcy last April. Ms Krause said the foreclosure was a reflection of the borrower’s struggles, not retail sales.

Wells Fargo chairman Richard Kovacevich said earlier this month that he doesn’t expect commercial real estate to cause a surge in losses for diversified banks because underwriting in the past decade was more disciplined than in earlier periods. He did acknowledge that writedowns lie ahead.

Hit hard

Wells Fargo said in its annual report that US$594 million of commercial mortgages, including those inherited from Wachovia, were no longer collecting interest, or about 0.6 per cent of its loans. That compares with US$128 million in 2007. The bank increased its allowance for commercial mortgage credit losses to US$1.01 billion at the end of 2008, or about one per cent of the loans, from US$288 million, or 0.8 per cent, a year earlier.

Among the retailers that couldn’t find a way to survive the recession is Circuit City Stores Inc, the electronics chain that went bankrupt last year as sales plunged. It closed its 567 US stores this year after negotiations with prospective buyers failed. Retailers Mervyn’s LLC and Linens ‘n Things Inc, which had more than 750 stores combined, liquidated late last year.

Citigroup Inc foreclosed last week on the Oakwood Shopping Center in Gretna, Louisiana after its owner, General Growth Properties Inc, missed a March 16 deadline to pay a US$95 million loan. Citicorp North America owns US$27.5 million of the loan, according to the foreclosure filing.

Last month, Citigroup took back Fuller Lofts, a planned redevelopment and expansion of a 1920s Los Angeles industrial building that was to be turned into 104 housing units. The tenant was a non-profit called Livable Places.

‘We began construction as speculation and frenzied demand drove up construction costs, and we started marketing homes as the turmoil in financial and real estate markets began,’ Livable Places said in a message on its website. ‘The impact on the southern California economy has been dire, and for Livable Places, the economic downturn has proved fatal.’

Matt Ehrhard, Fuller’s construction manager for four months in 2007, said work began at the same time the housing slide did.

‘Eventually the funds just ran out, and they couldn’t get any further with the project,’ Mr Ehrhard said. ‘I’ve never been involved with anything that’s been as derailed as much as this one.’

Citigroup is less exposed to commercial mortgages than its biggest competitors. The bank has US$6.6 billion, or 0.9 per cent of its loans, in real estate, compared with 12 per cent at Wells Fargo, 7.5 per cent at New York-based JPMorgan Chase & Co and 6.9 per cent at Bank of America in Charlotte, North Carolina, according to company reports.

Most troubled commercial properties have loans that are either syndicated or packaged into securities and sold to investors, and aren’t owned by a single lender. One Riverwalk Place, an 18-storey office building in San Antonio, defaulted this year, as did Riviera Holdings Corp, a Las Vegas-based casino owner. Neither loan is owned by a single lender.

Banks, like real estate developers, sold off most of the riskiest debt, said Dan Fasulo, a London- based managing director at Real Capital Analytics.