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Banks' interest in CRE loan sales builds, though big deals remain scarce


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Banks' interest in CRE loan sales builds, though big deals remain scarce

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Buyers are ready to purchase commercial real estate loans, and banks are considering selling. But a disconnect on pricing is preventing more deals from happening.
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Growing interest among US banks in selling commercial real estate loan portfolios has not yet translated into a wave of deals despite a large pool of potential purchasers — in part because buyers and sellers are not finding common ground on pricing.

More bank leadership teams are having conversations about reducing their commercial real estate (CRE) exposure as scrutiny from regulators and investors builds. But so far, PacWest Bancorp's May agreement to sell a roughly $2.1 billion portfolio of construction loans has been an exception because of its size and relatively favorable return and the fact that the portfolio was not widely marketed, industry experts said.

Despite increasingly serious conversations about offloading loans, depository institutions "don't yet have the gun to their head that is forcing them to have to make these sales," John Toohig, head of whole loan trading at Raymond James and president of Raymond James Mortgage Co. Inc., said in an interview.

The only assets trading are "trophies and trash," Toohig said — those that are either so prized or so distressed that buyers and sellers can agree on their values. For assets in between, sellers and buyers are generally far apart because many bankers believe that the Fed will cut interest rates soon, causing unrealized losses on many CRE loans to disappear, Toohig said.

Even when banks are selling, many are approaching that process differently from their counterparties, Toohig said.

"If they have a problem asset, probably a large single sub-performing asset, they very quietly want to move that asset," Toohig said. What many buyers want, meanwhile, is "to show just huge pools of loans trading at 20, 30 point discounts, to kind of spook the market into selling more."

Ample buyers, fewer deals

The buyer pool for CRE loans is much larger than the seller pool and has been for some time, William Looney, president and CEO of the loan sales and trading firm DebtX, said in an interview. New buyers have been emerging since early in the COVID-19 pandemic as it became apparent that "banks are going to be holding loans that are not going to be up to bank standards," Looney said.

Now, what were abstract conversations have become more concrete as banks prioritize retaining borrowers who also have deposits with them and pruning those with purely transactional relationships, Looney said.

Potential buyers for banks' CRE loans include nonbank investors, including real estate and fixed-rate funds that do not have the same underwriting standards as many banks, as well as a pool of about a dozen banks that routinely seek to buy loans from other banks below par, market participants said. Other investors are interested in buying CRE loans at a discount in the hopes of eventually gaining control of the underlying properties.

Despite the apparent mutual interest in loan sales, however, advisers said the increased level of talk has not yet translated into a wave of deals.

Debt sales adviser Mission Capital's transaction tracker, which the firm said does not capture all deals but is directionally consistent, tallied $8.09 billion in CRE loan sales offered into the market by nongovernment sellers in 2022 with $4.74 billion, or 58%, eventually traded. In 2023 through May, not including the PacWest portfolio, roughly $4.7 billion was offered for a higher listing run rate than a year earlier. The completion rate on those marketed deals was much lower, at 16%.

David Tobin, Mission Capital's founder and senior managing director, attributed part of the falloff in completions to the growing size of loans being marketed, which limits the pool of potential buyers for some deals. For many loan buyers, "if you go buy an office building loan for $100 million and you're wrong, you could just get vaporized," Tobin said.

Mixed motivations

The collapses of Silicon Valley Bank, Signature Bank and First Republic Bank may also have slowed potential CRE loan sales as banks suddenly became focused on guarding their deposit bases and fending off short sellers, Looney said.

In interviews, loan sale advisers described mixed feelings among bank executives about the optics of such sales: a desire not to project worry about credit quality alongside a wish to be forward-thinking in addressing market concerns. In particular, they said, banks are interested in reducing their exposure to office properties, where occupancies have suffered as more people worked from home, and healthcare properties, where labor costs have risen in recent years.

Banks' levels of nonperforming assets are historically low, but some that are considering selling are looking to the future, Jon Winick, CEO of the loan sale advisory firm Clark Street Capital, said in an interview.

"We all know that there's going to be a lot more loans that go into workout, get downgraded, and so on," Winick said. Banks do not necessarily have the people to manage the influx of workout assets, Winick added, "and the number is only going to go up."

Winick argued that forward-thinking banks will benefit from recognizing losses promptly, though they may want to sell loans tied to a mix of property types since the discount on performing office loans can be "quite severe."

Still, "better to sell a performing loan on an occupied building with a guarantor with wherewithal than to sell it as a nonperforming loan with a borrower in bankruptcy court with a property that's emptying out," Winick said.

Banks seeking to sell assets are going through the process of deciding whether to divest bonds or whole loans and are finding that criticized whole loans, which fall between clean performing and nonperforming categories, offer better pricing in the current market, Mission Capital's Tobin said.

"I think it's good to clean out your criticized assets and redeploy and take your lumps now in a highly liquid environment, where you have an effervescent equity market," Tobin said. While much about the future is uncertain, the commercial real estate market is "certainly not getting better, maybe treading water."

Potential for future trades

PacWest's pending sale of roughly $2.6 billion in real estate construction loans to real estate investment company Kennedy-Wilson Holdings Inc. and insurer Fairfax Financial Holdings Ltd., was the highest-profile CRE loan sale in the current environment, from a bank that was motivated to make a dramatic move to help stabilize its stock price. The bank also sold a roughly $3.54 billion lender finance portfolio to Ares Management Corp.

Separately, the Federal Deposit Insurance Corp. is preparing to market roughly $60 billion in primarily CRE loans once owned by Signature Bank of New York in a process that carries the potential for outsized asset sales.

Buyers remain interested. "There's plenty of cash looking for something to deploy itself into," Tobin said. "The things that we trade, the things that clear, we could sell them five times over."

Beyond the big deals, there is a "deep market" for CRE loan portfolio sales in the $10 million and $100 million ranges, should community or regional banks move to exit, Looney said.

Toohig said more banks could opt to sell if interest rates stay higher for longer and more borrowers are pushed into distress, though the number of such deals being completed is currently "very low."

"Nobody wants to take the pain," Toohig said. "But one by one, they're starting to."