Banking consolidation could hit real estate refinancing efforts 

Higher interest rates could also stall efforts to refinance maturing debt.

JPMorgan Chase’s acquisition of First Republic Bank on May 1 and concerns over the outlook for Pacific Western Bank, Western Alliance Bank and other regional lenders could further diminish the existing pool of banks active in commercial real estate lending and make it difficult to refinance a portion of the $400 billion of loans slated to mature in 2023. 

Jim Costello, chief economist at New York-based data provider MSCI, noted the consolidation of New York-based JPMorgan and San Francisco-based First Republic – two of the top 25 US commercial real estate lenders – could also have an impact on loan pricing and proceeds.  

“If [a sponsor] is shopping around for a loan and 20 lenders are competing for your business, the likelihood is you will get better rates and terms than if you have only, say, five lenders looking to work with you,” he said.

First Republic ranked at number 21 in MSCI’s 2022 ranking of bank originators, with a little less than $10 billion in lending. By comparison, JPMorgan completed a little less than $40 billion during the same period, per MSCI data. “It points to a further thinning of the herd,” Costello said.  

Richard Barkham, chief economist at CBRE, believes sentiment-related volatility in the banking sector could have a direct impact on bank commercial real estate lending.  

“[The weight of refinancing that needs to be done] is going to produce a lot of negative headlines and a lot of negative sentiment. That in turn will reduce large portions of the banking sector’s appetite to extend new loans to the real estate sector. I’m thinking of the regional banks that have a high proportion of their loans in real estate,” he said. “We’re in a world where any narrative around bank stress can lead to deposit withdrawal. Clearly there is a lot of negative sentiment out there right now.” 

Regional banking impact

Larry Jacobson, president of Los Angeles-based multifamily specialist Jacobson Equities, has been closely following the share prices of regional banks since May 2, when substantial volatility emerged.   

An example of this volatility was seen in the share prices of Beverly Hills, California-based PacWest as well as Phoenix, Arizona-based Western Alliance, both of which experienced steep drops on May 3, and a contemporaneous report from Reuters stated both institutions are looking at ‘strategic alternatives.’  

Shares of PacWest were trading at around $3.46 on Thursday, with a 52-week high and low of $34.21 and $2.48, respectively, and shares of Western Alliance were at $19.30 during the same period, with a 52-week high and low of $86.87 and $7.46. 

There is a link between the Federal Reserve’s latest rate increases, bank share volatility, and sponsors’ ability to refinance maturing commercial real estate debt, Jacobson said. 

“The Fed’s decision to increase rates by another 25 basis points this week was widely anticipated. Hopefully, the Fed is now prepared to pause future hikes and allow past hikes to work,” he said. “While inflation is starting to show signs of slowing on a month-to-month basis – the only metric that matters – we are now also starting to see an impact in the labor markets, slowing GDP, and the recent banking crisis.” 

As interest rates have continued to rise, depositors have been pulling capital out of banks and into money-market or other interest-bearing accounts for higher yields, Jacobson said. 

“This has an impact on inflation and GDP as it removes fuel the banks provide to grow the economy. The Fed has created an environment where many recessionary pressures are at play. Moreover, the risk of default by office borrowers creates further risk to the economy by reducing lending by banks with office exposure,” he said.  

If the Federal Reserve does pause on future increases, this will aid in providing a clearer view on the cost of capital. “Over time, we will likely see bid-ask spreads reduce, although it will take time for the markets to normalize. Banks will likely remain conservative in their underwriting,” Jacobson continued. 

Financing for multifamily is less likely to be impacted when compared to other asset classes as it benefits from agency capital such as Freddie Mac and Fannie Mae who have extremely strong allocations to the sector. “As bank underwriting constricts or we see banks leave the market completely, product types like office and other asset classes are likely to be adversely impacted by reduced lending in the market,” he added.  

Hope for calm 

While the Federal Reserve’s move was widely anticipated, setting its target rate at 5.00 to 5.25 percent, National Association of Realtors chief economist Lawrence Yun hopes the central bank will take a step back.  

“The latest interest rate hike by the Federal Reserve is unnecessary and harmful. Consumer price inflation has been decelerating and will continue this trend. After the awful 9 percent consumer price inflation in the summer of last year, the latest data shows 5 percent inflation,” Yun said. “The fast rate hikes by the Fed have upended the balance sheets of many small regional banks. They are becoming zombie-like banks, unable to lend even to good businesses as they are more concerned with balance sheet shuffling for survival.”  

Yun is hoping for a pause in future rate increases. “This situation will worsen with each additional rate hike by the Federal Reserve. Only by stopping the rate hikes or even a reversal later in the year after verifying much calmer inflation rates will the small banks have a better chance of survival against the big banks,” he said.