California Banking Sector Faces More CRE Challenges

One year after the collapse of SVB, California banks are once again in the spotlight due to their outsized exposure to CRE investments, raising concerns about potential risks and losses.

What happened: California banks are showing the highest concentration of commercial real estate loans relative to their capital in the U.S. Nearly a third of the state's banks have property debt that exceeds 300% of their capital, a benchmark often flagged for increased regulatory attention. The backdrop is a commercial property market under pressure from the highest interest rates in decades, leading to a heightened risk for banks as loan defaults increase.

Over the limit: California could rank as the world's fifth-largest economy, yet its banking sector is fragmented. Wells Fargo is the only major bank headquartered in the state. Regional banks, heavily reliant on commercial real estate, lack diversified revenue streams, which increases risk. High concentrations in specific client types, like venture capital or wealthy individuals, have led to significant failures, exemplified by Silicon Valley Bank and First Republic Bank.

In the spotlight: River City Bank in Sacramento has been particularly aggressive, growing its assets to approximately $5 billion over five years. Despite the bank's claims of cautious lending, its CRE loans now stand at 660% of its capital, the highest among all banks in California—but the lender is not alone. Almost 30% of the CA’s 127 registered banks have property debt exceeding 300% of capital.

➥ THE TAKEAWAY 

Big picture: California's regional banks are under stress as a softening property market and rising interest rates lead to increased vacancies and falling property values. These challenges have forced banks to strengthen their balance sheets against potential bad loans. With the CRE market facing growing pressures, regulatory bodies like the Federal Reserve and the Office of the Comptroller of the Currency are intensively monitoring to prevent another collapse.

Evaluating Multifamily Market Risks Across Major MSAs

Multifamily securitizations are under the spotlight. A recent analysis by KBRA, utilizing Trepp data, has provided a detailed risk assessment of multifamily markets in 25 major metropolitan statistical areas (MSAs).

Digging into the data: The analysis hinges on $189.1 billion worth of multifamily assets, representing about two-thirds of the $287.8 billion tracked in various Freddie Mac K-Series and other CRE financial products. Cities were rated on a 100-point scale, where a higher score indicates greater risk to investors.

By the numbers: The riskiest markets include Detroit, MI (86); Chicago, IL (79); Denver, CO (77); Washington, D.C. (74); Atlanta, GA (74); and Philadelphia, PA. In contrast, the most stable markets are Las Vegas, NV (30); San Diego, CA (48); Houston, TX (48); San Francisco, CA (52); Portland, OR (52); and Riverside, CA (52).

Risk criteria: KBRA's risk assessment considered factors such as loan balances, loan maturity profiles, vacancy rates, ongoing construction activities, and economic forecasts, including employment and population growth.

➥ THE TAKEAWAY

Why it matters: Insights reveal that cities like Detroit and Chicago are impacted by low employment and negative population growth trends, while Denver's challenges stem from above-average vacancy rates and construction activities. Meanwhile, cities like Austin, Phoenix, and Charlotte were spotlighted for their high vacancy and construction rates, yet they showed resilience thanks to strong market demand indicators.

The recent surge in leasing activity in Central Florida has led to significant absorption gains and rapid rent increases. However, this strong demand has resulted in a shortage of available spaces, particularly in the size range most preferred by industrial users.

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