Regulatory pressures to better toe the line on federal guidance on commercial real estate concentrations may be changing the secondary market for CRE credit.
In years past private lenders and government agencies such as FDIC tended to sell whole CRE loans that were to some degree troubled. But J. Kingsley Greenland II, president and CEO of DebtX, which operates an online loan marketplace and related advisory business, says this is changing.
Greenland says that some bank lenders have decided to reduce their CRE concentrations by selling off performing CRE loans. Regulatory pressure on CRE lending began to pick up late last year after concerned regulators issued reminders concerning longstanding interagency concentration guidelines.
Doubling of selling banks
“This has been a sea change for us,” says Greenland.
To illustrate the change, Greenland says that DebtX has 52 lenders selling in the fourth quarter of this year—additional institutions are in the pipeline, hoping to get sales accomplished. The majority are selling packages of loans, and most of those consist of CRE credits.
The total of loan sales in the works for the quarter is over $1 billion, according to Greenland. By contrast, in the fourth quarter of 2015, 26 institutions were working on loan sales.
Greenland says selling loans for strategic purposes—such as easing a concentrated balance sheet—appears to have become an accepted practice. Banks used to see some reputation risk in selling, he says—worrying that the industry would see the sale as a sign of weakness. But that appears to have gone away as a concern.
Greenland points out that second market sales have become a core part of residential mortgage lending strategy, which has helped make routine selling of CRE loans more acceptable.
Selling whole CRE loans has an advantage over loans generated for sale to commercial mortgage conduits.
On Dec. 24 risk retention requirements, established by regulations based on the Dodd-Frank Act, become effective for institutions that sell CRE loans to companies that serve as conduits for loans going into commercial mortgage backed securities (CMBS).
This 5% risk retention mandate is the “skin in the game” provision that proved so controversial in the early days of Dodd-Frank implementation. As it turned out, “qualified residential mortgages” were exempted by regulation from the retention requirements—not so CRE loans.
Volumes of CMBS issuance have been falling, compared to 2015, and there is speculation that the risk retention requirement will impact issuance further.