As go real estate loans, so goes banking activity

The banking industry spent much of 2009 cleaning house, a trend that is likely to continue in the coming year.

The biggest question going into 2010, according to Pat Brady, president of FirstBank of Northern Colorado, is how bad commercial real estate will be. Rental rates are being squeezed and, as loans come due, appraisals are revealing substantial declines in equity.

“(The commercial real estate) shoe dropped, and it’s still dropping but at a more steady rate,” Brady said. “It’s the million-dollar question for 2010.”

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Brady points out that borrowers who took out commercial loans in the midst of the building boom – around 2006 and 2007 – will soon be faced with finding new financing at a time when many banks are looking to reduce their CRE portfolios.

Nationally, loan balances declined for a fifth consecutive quarter. Total loan and lease balances declined by $210 billion, or 2.8 percent, during the third quarter. It was the largest percentage decline in loan balances since 1984, when federal regulators began collecting the data.

The FDIC pointed out that large banking organizations – those with over $100 billion in total assets – accounted for three quarters of the total decline while only holding 56 percent of all industry loans. Northern Colorado-based banks reduced all real estate loans by $190 million, or 4 percent, from the start of the year through the third quarter.

Not all banks are shedding loans, though.

FirstBank of Northern Colorado increased its loan portfolio in all sectors throughout the year. All real estate loans increased 19 percent through the third quarter – the bulk of which were in the residential segment. Brady said that the bank will continue to lend to the same standards it has used for years.

“We’ll grow our loans and deposits within reason but not strip our capital,” he said.

For the industry, in general, deteriorating loan quality has put stress on capital levels. In all of 2009, 140 banks failed, 95 of those in the second half of the year. Nationally, loan loss provisions for the third quarter were $62.5 billion, more than $11 billion higher than a year earlier. It was the fourth quarter in a row that provisions exceeded $60 billion, and almost two out of three institutions increased their loss provisions from a year earlier.

In Northern Colorado, loan quality continued to deteriorate throughout 2009, setting up 2010 for potential charge-offs. Assets in nonaccrual status increased from $146.8 million at the start of 2009 to $305 million in the third quarter. Assets heading to nonaccrual – those 90 days or more past due – saw a similarly large increase, up to $40.4 million from $15.2 million.

While large institutions took the early brunt of the financial fallout in 2008, community banks stand to take the biggest hit from soured commercial real estate loans. At the end of the third quarter there were 552 “problem” banks on the FDIC’s radar, up from 416 at the end of the prior quarter, most smaller institutions stressed by commercial real estate.

Community banks are also trying to adjust to sweeping changes in regulation that have passed or are pending.

“The community banking industry is not planning on forwarding any major legislation in 2010,´ said Barbara Walker, executive director of Independent Bankers of Colorado, in an e-mail interview. “Rather, we expect to play defense on any ill-conceived legislation to fix what is not broken, against added regulatory burdens that have no tangible benefit to community banks or to our customers, and on any well-intentioned legislation that impairs access to credit – especially for small businesses and family farms and ranches – the primary customers of community banks.”

Community banks in 2010 will be closely watching the health of commercial real estate and the status of regulatory changes, and measuring the possibility of an interest rate hike from the Federal Reserve.