Largest U.S. banks cut back on property lending as charges climb

Banks including Wells Fargo, Bank of America and JPMorgan Chase have pulled back on financing for offices and other commercial real estate following a record burst of lending in the first half of this year. 

The biggest U.S. lenders — which also include Morgan Stanley and Goldman Sachs — have become more selective and stiffened borrowing terms while issuing fewer new commercial property loans, according to people familiar with the matter who asked not to be identified citing private information.

Big U.S. banks are pulling back on some commercial real estate financing deals.

Amir Hamja/Bloomberg

That pullback is partly due to weaker client demand, as well as concerns about the surge in interest rates. In some cases, heightened regulatory oversight has played a role.

“A couple of the big money-center banks have been asked to pull back from their commercial real estate lending, specifically on office,” Brock Cannon, head of national loan sales for Newmark Group, a commercial real estate brokerage. “The government is trying to get their arms around everything to see how impactful this is going to be; how severe will the losses be.”

U.S.-regulated banks financed a record $316 billion of net new commercial real estate loans in the six months through June, up 172% from the same period in 2021, according to Federal Reserve data. The lending surge came as the Fed jacked up interest rates to cool inflation, a shift that doubled the cost for commercial real estate borrowing in the past year. The central bank is expected to hike rates even more at a meeting Wednesday, with speculation that officials could boost the benchmark rate 75 basis points or more.

The banks have also ended up keeping even more debt on their balance sheets, as higher rates choked off new issuance of commercial mortgage-backed securities and collateralized loan obligations that repackage bank debt into bonds.

Banks were such active lenders during the first half of 2022 that the recent decline has been stark. Lending from the biggest banks is likely on pace to be down 50% in the second half compared to the first six months of this year, according to Michael Van Konynenburg, president of Eastdil Secured, a commercial real estate investment banking and brokerage firm. 

“There is now more caution due to economic uncertainty as the Fed tightens,” Van Konynenburg said in an email. “The bank stress tests did increase capital requirements, which has put some further pressure on the lending markets.”

U.S. banks had roughly $2.8 trillion of exposure to loans for office, hotel, industrial and other nonresidential property as of June 30, according to the Federal Deposit Insurance Corp. Wells Fargo, which plans to shrink its home mortgage division, ranked as the biggest commercial real estate lender with $155 billion in loans, while JPMorgan, with $106 billion in loans, and Bank of America, with $64 billion, were the next largest commercial real estate lenders, according to company documents.

Bank of America continues to support its clients when there’s lending demand, said Bill Halldin, a spokesperson for the bank. Wells Fargo spokesperson Hannah Sloane said the company has seen “solid growth” in commercial real estate loans so far this year and is continuing to work with clients to help them access needed financing.

Representatives for Goldman Sachs, JPMorgan and Morgan Stanley declined to comment.

Clamming up

Overall, the commercial real estate market is cooling. Higher interest rates have begun to cut into real estate valuations and deal volume plunged in July, according to MSCI Real Assets. That’s led lenders to reduce the loan-to-value of new originations and increase the size of loan spreads over benchmarks such as the secured overnight financing rate, or SOFR. 

“They loaned so much in the first two quarters of this year that they’re really clamming up,” Steven Buchwald, senior managing director at Institutional Property Advisors, said in an interview. “When they do make a loan, they’re adding extra belt and suspenders to everything.” 

Office building deals have been in the spotlight because of the pandemic’s effect on remote-work policies. Now, regulators are warning that could be a problem for banks. The FDIC is concerned about office and business hotel values, especially in areas such as Manhattan, that have lagged behind in recovery since the pandemic, according to a “Supervisory Insights” note last month. Office vacancies in Manhattan hit a record high 15.8% in the second quarter while US offices had a 18.9% vacancy rate, the brokerage Jones Lang LaSalle reported. “Given the uncertain long-term impacts of changes in work and commerce in the wake of the pandemic, the effects of rising interest rates, inflationary pressures, and supply chain issues, examiners will be increasing their focus on CRE transaction testing in the upcoming examination cycle,” the FDIC said in its report.

Dropping out

Not all banks are pulling back. Bank OZK, with $26 billion committed to real estate debt, originated a record $6.67 billion in new loans in the first half and expects to do more business as other lenders withdraw from the market.

“Competitors have dropped out of the space,” George Gleason, chief executive officer of the Little Rock, Arkansas-based bank, said during a July conference call with investors. “We’re getting better margins on deals we’re quoting today than deals deals we quoted a quarter or two quarters ago.”

A Bank OZK spokeswoman, Michelle Rossow, declined to comment.

It’s no surprise that regulators would increase scrutiny of bank exposure to commercial real estate as the central bank tries to cool the US economy. Commercial real estate is the largest slice of loan portfolios for half of US banks, especially smaller and regional lenders, Janney Montgomery Scott reported this month. Real estate debt defaults triggered the 1980’s Savings and Loan Crisis as well as the 2008 Wall Street crisis, according to Joe Pucella, associate managing director in the Moody’s Investors Service financial institutions group.

“If you look back over the history of bank failures, the major driver — in the early 90’s, in the Great Recession — for banks, and specifically smaller banks that have higher concentrations, has been deterioration in CRE asset quality,” Pucella said.

— With assistance from Erin Hudson and Katherine Doherty.

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