Eighteen regional banks are facing a new challenge as they may need to add approximately $63 billion of holding company debt to meet proposed regulatory guidelines for lending institutions with $100 billion to $250 billion of assets, according to a Bloomberg report.
These regulatory measures would require additional capital for banks such as First Citizens FCNCA, Truist Financial Corp., PNC Financial Services Group Inc, Citizens Financial Group Inc., and M&T Bank. As a result, these banks and others are considering fresh corporate bond offerings.
While the capital raise is significant for complying with long-term capital requirements and other proposed measures by the Federal Reserve and the Federal Deposit Insurance Co., it is uncertain whether this funding will be sufficient to prevent future bank failures, as highlighted in a research note published by Bloomberg Intelligence analysts.
Notable Development: Analysts view FDIC rules on long-term debt as ‘on the tamer side of expectations’
Fortunately, regional banks will not be required to meet total loss-absorbing capital levels comparable to larger banks, dispelling earlier forecasts. However, in addition to regulatory challenges, these banks may also face vulnerability due to their exposure in the office real estate market, having accumulated loans in this sector over the past decade or so.
Troubling Signs for Commercial Real Estate Lenders
A recent report by The Wall Street Journal has revealed concerning developments in the lending space. According to the report, banks have nearly doubled their loan activity to landlords, reaching a staggering $2.2 trillion by 2022 compared to 2015. It’s worth noting that many of these loans have been originated by small- and medium-sized financial institutions.
In terms of overall exposure, banks find themselves intertwined with the commercial real estate market to the tune of $3.6 trillion. This figure encompasses various forms of exposure, including indirect lending transactions facilitated through financial companies that lend to landlords, bond purchases backed by commercial properties, foreclosed properties, trading portfolios, and other assets. Shockingly, this exposure amounts to a significant 20% of bank deposits.
Unfortunately, the future looks bleak for lenders as prices for commercial real estate, particularly office properties in downtown areas, are expected to decline. Such a development poses a considerable challenge for banks and their loan portfolios.
It is worth considering the performance of bank stocks in light of these circumstances. Currently, they continue to underperform the overall equities market. For example, the KBW Nasdaq Bank Index (BKX) has experienced a notable decline of 20.8% in 2023. In contrast, the Nasdaq Composite (COMP) has risen by 31.8%, and the S&P 500 (SPX) has recorded a moderate increase of 16.2%. Moreover, while the Financial Select SPDR ETF (XLF) has only seen a marginal 0.3% year-to-date increase, other banking-related ETFs such as the SPDR S&P Regional Banking ETF (KRE) and SPDR S&P Bank ETF (KBE) have experienced declines of 26.6% and 15.8%, respectively.
In light of these developments, it is clear that financial institutions face numerous challenges in the current lending environment. Factors such as bank exposure to the commercial real estate market, declining property prices, and underperforming bank stocks contribute to an increasingly precarious situation. Addressing these concerns will be crucial for lenders seeking to navigate potential challenges ahead.
Also read: Bank Asset Quality, Weaker Profits Spark Moody’s Reviews and Downgrades as It Weighs Potential 2024 Recession
Also read: FDIC Says Inflation, Interest Rates, and Geopolitical Uncertainty are among ‘Matters of Continued Supervisory Attention’
