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Recent Bank Failures and What It Means for Commercial Real Estate

March 20, 2023

The failures of Silicon Valley Bank and Signature Bank, as well as the precarious positions of First Republic and Credit Suisse, meaningfully impacted U.S. lending and capital markets activity in a variety of ways last week:

• Drove market volatility higher (VIX above 26)
• Reversed expectations of the magnitude of future Fed rate hikes
• Triggered heightened recession fears
• Raised concerns over the effectiveness of bank regulation today (House Financial Services Committee hearings on bank failures on tap late this month)
• Turned a spotlight on limited liquidity in CRE finance markets
• Pushed CMBS spreads wider and cause transactions to be pulled (see Capital Markets Update below)

Crisis Sparked in Part by Rising Benchmark Rates; All Eyes on the Fed This Week

The FOMC meets this Tuesday and Wednesday; a 25-basis-point increase may be in the cards, but don’t rule out a Fed pivot/pause. The Fed raised rates eight times this cycle, with the range now at 4.50% - 4.75%, pushing borrowing costs to the highest since 2007. Note the ECB hiked interest rates 50 bps to 3% last week.

“Good Banking Is Produced Not by Good Laws, but by Good Bankers” - Hartley Withers, Editor, The Economist, 1916 to 1921

What’s Happened? On March 12, key bank regulators (FDIC, Federal Reserve, Treasury) stepped in to protect the U.S. financial system when Silicon Valley Bank and Signature Bank failed. Regulators exercised emergency powers to cover uninsured deposits and stem losses on Treasuries and Agency MBS. SVB and Signature Bank ‘saves’ will play an essential role as the Fed reviews and potentially proposes new, more stringent bank capital rules.

Key Steps Taken to Date:

• Closing SVB and Signature Bank and backing all deposits, including those beyond the $250,000 insured under Federal law. The move was intended to avoid a more broad-based ‘systemic’ meltdown. The Federal Deposit Insurance Corporation (FDIC) announced it is extending the bidding process for buyers interested in purchasing Silicon Valley Bank, citing “substantial interest.”
• As for Signature Bank, New York Community Bancorp assumed substantially all of the deposits and some of the assets and lines of business of Signature Bank from the FDIC, although it did not purchase Signature's CRE portfolio. They also did not buy the credit card business or Signature’s crypto unit Signet, which facilitates the buying and selling of digital currencies. As compensation for the deal, NYCB is granting the FDIC the right to buy shares in NYCB that could be worth as much as $300 million. The FDIC estimates the deal will cost the bank regulator’s deposit fund $2.5 billion.
• Launching the Bank Term Funding Program (BTFB). Provides loans up to one year to banks, savings associations, credit unions, and other eligible depository institutions, pledging U.S. Treasuries, agency debt, and MBS, and eliminates the need to sell securities into a stressed market. The loan is fixed to the one-year overnight index swap rate plus 10 bps on the day the advance is made.
• Sale of Credit Suisse to UBS. UBS Group agreed to acquire Credit Suisse on Sunday for $3.25 billion, further de-escalating the crisis. Bloomberg reports that CS was valued at $8 billion on March 17, 2023. According to reports, the Swiss government is providing some $9 billion to backstop potential UBS losses that may be incurred in the transaction.

Look Out Below. Regulators, legislators, and market participants will be discussing this crisis for some time and watching closely for continued stress on liquidity across sectors.

SVB Under Fed Scrutiny. Recent news reports highlight that SVB had been scrutinized by Federal bank regulators for over a year and warned about addressing what were viewed as risky practices. According to a New York Times report:

“In 2021, a Fed review of the growing bank found serious weaknesses in how it was handling key risks. Supervisors at the Federal Reserve Bank of San Francisco, which oversaw Silicon Valley Bank, issued six citations. Those warnings, known as ‘matters requiring attention’ and ‘matters requiring immediate attention,’ flagged that the firm was doing a bad job of ensuring that it would have enough easy-to-tap cash on hand in the event of trouble.” 

The report highlighted that, by July 2022, the bank had failed to address the Fed’s concerns and was ultimately rated deficient for governance and controls.

Expect a multitude of hearings/studies on:

·        Safety and soundness of our banks (focus on small/mid-sized institutions)

·        What it means for capital flows into U.S. businesses and households

·        What new legislation/regulation needed to prevent further bank crises

Reduced Liquidity to CRE?

The immediate impact for CRE is likely reduced liquidity from the banking community, particularly from small to mid-sized institutions. Elevated interest rates and wider credit spreads have reduced loan originations for balance sheet and CMBS lenders. Given the heightened focus on bank lending, CMBS financing may increase should competition from balance sheet lenders slow.

Treasury Secretary Yellen testified last week to Congress that the nation's banking system remains sound and Americans "can feel confident" about their deposits.

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