Transforming the Banking Sector

It's not unusual to see two or three bank failures a year, either from fraud or abuse of power or something less criminal, like mismanagement of funds. This year, however, the number of bank failures stands at 13 and more than 100 banks are on the FDIC's failure watch list. Some analysts peg the number of possible failures even higher — up to 1,400.

Perhaps most surprising is the fact that two of the banks that failed — Washington Mutual Inc. and Wachovia — were among the largest banks in the United States. And even more disheartening for commercial property owners, Wachovia was one of the largest players in the commercial real estate financing arena, according to the MBA.

The fallout for retail real estate owners is considerable. Bob Seiwert, head of the American Bankers Association's Center for Commercial Banking and Business Lending, says commercial real estate players looking for debt — regardless of whether the loan is for a new development, acquisition or refinancing — aren't likely to get money from a bank or a thrift. And marginal borrowers or borrowers with a limited or no track record are completely shut out of the market.

According to the FDIC's second quarter report, which is the most recent, commercial banks and thrifts had core capital equal to 7.9 percent of their assets. The FDIC says a “well capitalized” bank needs 6 percent. By that measure, more than 99 percent of the assets of banks and thrifts are held in well-capitalized banks. Seiwert says plenty of banks have overdosed on real estate and have decided to focus on business lines. For some banks, the fear of what a lengthy recession would do to commercial real estate is enough to prevent them from issuing any new loans.

The FDIC stepped in with enough time to save Wachovia from total failure, although the bank is being acquired by Wells Fargo. The $13.5 billion acquisition of Wachovia gives the company the most bank branches in the U.S. and would rival Bank of America Corp. in terms of deposits.

But the big effect of Wachovia's merger with Wells Fargo won't be on the tenant side, it will be on the lending side. Wachovia and Wells Fargo ranked Number One and Number Two on the Mortgage Bankers Association's Annual Originations Ranking in 2007. Wachovia led the way with originations worth $90.4 billion. Wells Fargo was not far behind at $71.7 billion. Furthermore, Wells Fargo ranked as the largest intermediary with $32.5 billion in that business in 2007 while Wachovia ranked fourth with $15.7 billion. On retail specifically, Wachovia ranked first with $10.8 billion in originations and Wells Fargo second with $6.8 billion.

Merrill Lynch analyst Ed Najarian noted that Wachovia's commercial and commercial real estate loan portfolios had aggregate delinquent and non-accrual loans of $6.3 billion — more than the nation's six largest banks. Wachovia's total delinquent and non-accrual loans were $21.7 billion at the end of the second quarter. Moreover, the company said it would take write-downs of more than $1 billion for commercial loans for the second half of 2007.

But in the case of Washington Mutual, or WaMu, it was residential real estate rather than commercial real estate that caused its problems. With more than 43,000 employees, roughly 2,200 branch offices in 15 states and $188.3 billion in deposits, WaMu specialized in providing home mortgages, credit cards and other retail lending products and services. It also had a significant multifamily lending group.

The housing downturn put WaMu under significant pressure, leading to three straight quarters of losses totaling $6.1 billion. As of June 30, 2008, the bank held $118.9 billion in single-family loans on its books, including $52.9 billion in payment option adjustable rate mortgages and $16.1 billion in subprime mortgage loans. At that time, the bank's management disclosed that its credit quality had deteriorated and that it would likely suffer as much as $19 billion in losses on its single-family residential portfolio.