What's Worrying New York's Banking Regulators? Plenty, Including CRE Loans

New York’s top financial regulator — Adrienne Harris, director of the state’s Department of Financial Services — has been vocal about a number of issues, including cryptocurrency regulation and better and faster bank oversight. And the state of CRE loans.

Harris stated in a recent Bloomberg TV interview that the “banking system is very stable” after the actions federal regulators took in March, closing several banks like Silicon Valley Bank and First Republic Bank in California and Signature Bank in New York.

But then she added that “there’s still lots of issues looming,” like risks from interest high interest rates, attending unrealized losses, and exposure to commercial real estate loans. “So, the regional banking crisis, I think, is over,” Harris added. “The banks are stabilized, but certainly we’re mindful of other risks in the system.”

Harris’s testimony, specifically about Signature Bank, before the House of Representatives in May 2023, helps explain her experience and concerns. “Signature’s reliance on uninsured deposits posed a risk that the Bank had to manage carefully to ensure adequate liquidity while maintaining a safe and sound business,” she said. “However, the Bank’s growth significantly outpaced the development of its risk control framework.” Concerns had started as early as 2018 then regulators “began to document liquidity-related regulatory concerns.”

Regulators downgraded the bank’s liquidity multiple times though 2020 and 2021 and “warned the Bank that it was imperative to hasten remediation efforts in developing and implementing an appropriate liquidity management framework and a contingency funding plan that was commensurate with the Bank’s increasing liquidity risk profile and level of funding concentrations.”

The bank was slow to respond to regulators’ recommendations. Though the timetable of the bank’s closure on Sunday, March 12, after a significant run on deposits the previous Friday, “Signature would not commit to providing information by a particular time” after being told how significant the concern over its ability to operate was.

Faster bank oversight would be one takeaway. But another instructive fact was that Signature had two main lines of business: commercial real estate and commercial and industrial lending. The bank had fueled a lot of growth on “new business activities and deposit customer types, such as mortgage servicing and digital assets-related deposits, significantly increasing the level of uninsured deposits.” And then it made an additional error during the fateful weekend.

“For other assets, such as the Bank’s commercial real estate loan portfolio, Signature made assumptions regarding the immediate ability to convert these assets to cash, which the [Federal Reserve Bank of New York] noted would take weeks to assess,” Harris testified. “Although the Bank knew the FRBNY would not accept this collateral in the necessary timeframe, Signature continued to report to the Regulators that liquidity for these assets would be available as early as Monday, March 13.”

Back to the Bloomberg TV interview, Harris called the potential for a crisis from the inability of CRE property owners to refinance “an important issue.”

“We look at our banks and their real estate exposure — whether it’s office space, multifamily housing — I think regulators across the country are looking at loan-to-value in the event of a refinance and we’re looking at diversification. They’re looking at the segment overall to make sure that risk is being managed proactively before these loans come due.”

Harris also said she was thinking about “how do we operationalize our regulations?”

“If we’re examining banks in a certain time frame, can we make that examination go faster without sacrificing rigor, give feedback to the institutions more quickly, and then hold them accountable for remediation so that feedback becomes tighter.”

That may ultimately become one of the biggest new considerations for CRE. If regulators and banks begin to move much faster to hold off a prospective problem, could that mean developers, investors, and owners will have to learn to react even faster than today?