Bankers are entering a new year feeling a sense of déjà vu about regulatory warnings over commercial real estate concentrations.
A decade earlier, regulators were warning that CRE exposure could lead to earnings and capital volatility. While many bankers said those concerns were overblown – arguing that few institutions were in trouble – hundreds of banks ended up failing.
Fast forward to today and regulators are expressing similar reservations, warning that areas such as multifamily could become problematic. Bankers, however, say they believe the industry is better equipped to handle an economic shock, pointing to a system with more capital, backstops from borrowers and improved risk management processes.
Only time will tell if those views are correct and whether bankers will remain relatively cautious.
"You see comments about taking a foot off the gas," said Peter Cherpack, principal of credit technology at Ardmore Banking Advisors. "The enthusiasm for real estate for many bankers is now somewhat tempered."
Still, the industry struggles "with bankers who have short memories," Cherpack said.
Several banks exceed recommended CRE levels, as a percentage of total risk-based capital, prompting regulators late last year to remind banks of their guidance on concentrations. Regulators prefer that CRE remain below 300% of a bank's total risk-based capital and for construction and land development loans to stay under 100%.
Regulators said in a joint statement that "many CRE asset and lending markets are experiencing substantial growth, and that increased competitive pressures are contributing significantly to historically low capitalization rates and rising property values."
There is no prohibition for going over those levels, and the numbers aren't considered limits. Banks may still be targeted for more supervisory analysis and, as a result, should implement enhanced risk controls, such as stress testing for CRE portfolios.
New York Community Bancorp and Astoria Financial earlier this week terminated a $2 billion merger after facing regulatory delays that some industry observers believe could be linked to CRE concentrations.
It seems unlikely that a focus on CRE will let up next year. Fitch Ratings warned last month that CRE lending at U.S. banks had reached record levels that are unsustainable.
"I don't think commercial real estate will be dropping off the radar," said Patrick Ryan, president and CEO of First Bank in Hamilton, N.J. "Other areas like cybersecurity might also become an area of focus … but it may not replace CRE."
A review of the financial crisis provides some rationale for regulators' diligence. A 2013 report from the Office of the Comptroller of the Currency and the Federal Reserve found that 23% of banks that exceeded guided levels for both CRE and C&D loans failed during the three-year economic downturn, compared with less than 1% of banks that stayed below those levels.