Driven by expanding problems in the commercial real estate sector (CRE), the number of distressed banks in the US rose to 702 at the end of 2009, the highest level in 16 years, according to the Quarterly Banking Profile (pdf.) report released by the Federal Deposit Insurance Corporation (FDIC). Furthermore, the report notes that US banking sector continues to consolidate at a rapid pace.
The number of insured commercial banks and savings institutions reporting financial results declined by 87 during the fourth quarter. Only three new charters were added during the quarter, while 43 institutions were absorbed by mergers and 45 institutions failed.
For the full year, the number of reporting institutions fell from 8,305 to 8,012. Only 31 new charters were added in 2009, the smallest annual total since 1942. Mergers absorbed 179 institutions during the year, and 140 insured institutions failed. This is the largest number of bank failures in a year since 1992.
The number of institutions on the FDIC’s “Problem List” rose to 702 at the end of 2009, from 552 at the end of the third quarter and 252 at the end of 2008. Total assets of “problem” institutions were $402.8 billion at yearend 2009, compared with $345.9 billion at the end of September and $159.0 billion at the end of 2008. Both the number and assets of “problem” institutions are at the highest level since June 30, 1993.
One in eleven banks in the country are now deemed in trouble by the FDIC. The regulatory body now expects a quickening pace of bank failures driven by defaults in the CRE sector.
"This year, the losses are going to be heavily driven by commercial real estate, we've known for some time and we have been projecting that," FDIC Chairwoman Sheila Bair told reporters in a press conference. "The pace is probably going to pick up this year and for the total year it will exceed where we were last year. Overall, the banking system is challenged but stable, but is performing its credit extension role."
Bair said it takes longer for losses on commercial real estate to work through the system because frequently borrowers may have cash reserves and can continue to make good on payments for a while, even as a downturn expands. "Tenants may be in longer-term leases, but those leases eventually come due and they don't renew or they renew at significantly reduced rental rates," she said.
So far in 2010, the FDIC has seized, closed or merger 20 banks. In 2009, 140 banks failed, the largest number in 17 years.
The Congressional Oversight Panel's February oversight report, "Commercial Real Estate Losses and the Risk to Financial Stability," is now available for download (pdf). The report expresses concern that a wave of commercial real estate loan losses over the next four years could jeopardize the stability of many banks, particularly community banks. Commercial real estate loans made over the last decade - including retail properties, office space, industrial facilities, hotels and apartments - totaling $1.4 trillion will require refinancing in 2011 through 2014. Nearly half are at present "underwater," meaning the borrower owes more on the loan than the underlying property is worth. And as I reported back in late November, the commercial real estate mortgage default rate has risen to a 16 year high.
Here's the latest overview (4Q09) of the CRE market from Real Estate Econometrics, an industry group that tracks the CRE sector:
Rising Default Rates
The national default rate for commercial real estate mortgages held by depository institutions rose from 2.88 percent in the second quarter of 2009 to 3.40 percent in the third quarter. Over the same period, the multifamily mortgage default rate increased by 44 basis points, rising from 3.14 percent to 3.58 percent. These increases are consistent with reeconometrics' projections for the commercial mortgage default trajectory in 2009.
Variation Across Banks; Concentration Risk
The analysis shows that banks with similar concentrations in commercial real estate may exhibit marked differences in delinquency and default rates. In particular, an analysis of loan performance at the 5,015 institutions with the largest exposures to commercial real estate shows no statistically significant relationship between concentration and default rate.
Increases in Non-Accrual Balances
The balance of commercial mortgage loans 30 to 89 days past due increased from $12.7 billion to $13.2 billion between the second and third quarters. The balance in default, which includes mortgages 90 days or more past due and loans in non-accrual status, increased by $5.7 billion, to $37.1 billion.
Reeconometrics projects that the default rate for bank-held commercial mortgage will rise to 4.0 percent by year-end 2009 and will peak in 2011. The largest losses will occur at regional and community banks, principally due to higher concentrations in commercial real estate. At 29.0 percent, commercial real estate concentrations are greatest among banks with $100 million and $1 billion in assets.
According to Real Estate Econometrics, a property research firm, the total balance of delinquent and defaulted commercial mortgages in the July to September time frame in the US has jumped by 14 percent to $50.3 billion. During the 3Q09, the commercial default rate rose from 2.88 percent to 3.4 percent, the highest level since 1993 when the default rate was 4.1 percent.
The national default rate for commercial real estate mortgages has now risen 63 basis points from 2.25 percent since the beginning of 2009 and doubled over the past year. Moreover the 52 basis point increase in the third quarter is the largest one-quarter increase since quarterly data became available in 2003. The rising default rate is more bad news for already stressed banks, which hold more than 80 percent of the maturities due on commercial real estate debt over the next two years.
"The dramatic decline in real economic activity and labour markets since last September has undercut property fundamentals, increasing the number of recently originated loans that are at risk for delinquency and default because of cash flows falling short of principal and interest obligations," said Sam Chandan, chief economist at Real Estate Econometrics.
Real Estate Econometrics sees the default rate for commercial real estate mortgages held by depository institutions hitting 4.0 percent in the fourth quarter of 2009, about 5.2 percent by the end of 2010, and peaking at 5.3 percent in 2011.
Last week, the FDIC published its quarterly banking profile. While the FDIC noted that indicators of asset quality continued to deteriorate during the third quarter, the pace of deterioration slowed for the second consecutive quarter. That's the good news. The bad new is this:
The number of institutions on the FDIC's "Problem List" rose to its highest level in 16 years. At the end of September, there were 552 insured institutions on the "Problem List," up from 416 on June 30. This is the largest number of "problem" institutions since December 31, 1993, when there were 575 institutions on the list. Total assets of "problem" institutions increased during the quarter from $299.8 billion to $345.9 billion, the highest level since the end of 1993, when they totaled $346.2 billion. Fifty institutions failed during the third quarter, bringing the total number of failures in the first nine months of 2009 to 95.
Ten days ago, I wrote about how a proposed rule change at the Federal Deposit Insurance Corporation (FDIC) underscores the severity of our banking crisis. Then I commented on how the Board of Directors of the FDIC had adopted a Notice of Proposed Rulemaking (NPR) that required insured institutions to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012. In doing so, the FDIC collected about $45 billion to shore up its liquidity as it closes failing banks transferring their assets to larger ones. And on a number of occasions, I've touched upon the crisis in the nation's commercial real estate sector.
These two stories are not unrelated. About $870 billion, or roughly half of the industry's $1.8 trillion of commercial real estate loans, sit on the balance sheets of the smaller and medium-sized banks that are now under increasing duress as defaults mount. In September 2008, the commercial real estate default rate stood at 1.38 percent; it is now projected to hit 3.9 percent by year's end and 4.7 percent in 2010. And what this portends is an increasing consolidation of the nation's banking sector that will benefit the already rich and powerful.
In the past 15 years the US commercial banking sector has already undergone an unprecedented concentration. In 1995, the top five banks had a combined 11 percent deposit share; today they have nearly 40 percent. The top three - Citigroup, Bank of America, and JPMorgan Chase - account for 30 percent of the nation's deposits. These three banks also account for over 40 percent of bank loans to corporations. Half of all Americans do business with Bank of America. Expand the list to the nation's top 15 banks and they control a full 70 percent of the nation's deposits. In size, these banks have become too big to fail. They are allowed, if not encouraged, to take on risk because ultimately Uncle Sam will bail them out if their practices run awry. But such conditions do not exist for Main Street banks.
Small banks are failing at a prodigious rate. Ninety-eight US banks have failed so far in 2009, up from 25 during 2008 and only three in for all of 2007. Twenty-four insured institutions with combined assets of $26.4 billion failed during the second quarter of 2009 alone. But this is just the tip of the iceberg, the banking sector's assets shrunk by about $300 billion per quarter in the first half of 2009. And since defaults are still increasing, the sector faces an even more turbulent 2010. Christopher Whalen of Institutional Risk Analytics, for example, forecasts the FDIC will ultimately need $300 billion to $400 billion to recoup losses to its bank insurance fund. It's all quite a mess and it requires attention because the sector is under-capitalized and reluctant if not unable to lend causing a drag on the overall economy.
Consider the recovery project facing Obama in saving the world economy and the words gargantuan and humongous come to mind, analogous to constructing a snow fortress on thin ice on a central Wisconsin lake during the early Autumn. [Lots of unknowns and ambiguity; we don't know what to do, why and whether it will work.]