FDIC Sales of CRE Bank Loans Bring Risk to Other Banks

Bank loan assets are finding themselves on the market, whether the FDIC expecting to sell the $60 billion worth retained from the Signature Bank closure sometime this summer, or PacWest selling 74 construction loans to Kennedy-Wilson Holdings for $2.4B, a discount of $200M.

With increased pressure on CRE loans and greater numbers of assets becoming distressed in the near future, there’s no reason to think that the discounting has ended. That could pose big systemic problems, as Arkhouse managing partner Gavriel Kahane tells GlobeSt.com.

He worries that if any of these portfolios go for too little, it could “create a domino effect for other regional banks currently holding risky CRE loans.”

Once loans get sold, they are marked to market. The financial information provides price discovery and affects how other loans are valued.

“There are two major reasons [the FDIC] should be concerned with getting the most value,” Kahane says, focusing on the Signature Bank legacy loans. “One is fairly obvious—it’s their job. The other is that if these loans sell at a discount, the effects are going to be tremendous. It could really send some shock waves through financial systems.”

Kahane says investment sales markets focus on the amount of supply and demand there is for products. “We’re at a time when there’s really an unprecedented demand for hard assets and yields,” he says. “In general, private equity returns outpaced public market returns over the last couple of decades, so there’s been a flood of capital into private equity. But cascading bank failures could introduce a flood of supply from realization of today’s market value on a bunch of older real estate-backed commercial real estate loans.”

It’s not that the older loans are credit risks. Although on greater leverage and lower rates than today, the loans would likely keep getting paid. But when the market value suddenly drops, banks and their investors and depositors suddenly see weakness and want to reduce their exposure.

“The problem is when you try to monetize those loans today, they need to trade below par,” says Kahane. “If you try to introduce those to the market at older, lower rates, the buyers will have to take a discount to par to get to a yield they could get today for that same credit risk, that same LTV.”

“Right now, there’s a blissful ignorance that we’re all sitting in this position saying I don’t want to look inside the box. I don’t want to know what the debt is worth today,” he says. But information that causes asset values to be reconsidered force the attention that can lead to panic.

Kahane thinks it’s 50-50 that the FDIC sale this summer could significantly underprice the current value of the Signature portfolio. “I think there’s just as likely chance that the government doesn’t step in and support the Signature portfolio sale as it does. How they act is so hard to predict.”