ROBERT B. SEGAL
Loan delinquencies low

The Bay State’s housing market has hit a speed bump, but so far the real estate slump is not adversely affecting the balance sheet at local banks to a great degree.

“It’s not impacting banks in terms of credit,” Robert B. Segal of J. William Mantz Investment Advisors in Gloucester said of the housing market downturn.

But slowing construction and sales eventually will have some effect on banks, experts say. The Federal Deposit Insurance Corp. focused on the state’s housing market in its latest quarterly state profile. The profile also noted that banks in Massachusetts are maintaining healthy capital levels. The median core-capital ratio reported by FDIC-insured institutions has continued to trend upward ever since the banking problems of the late 1980s and early 1990s, when some institutions failed. Relatively stable earnings and low loan-loss provision expenses supported the healthy capital.

The high capital levels are characteristic of smaller banks, which dominate the landscape of Massachusetts-based banks since most of the state’s larger banks have been acquired by out-of-state institutions.

“I think that part of [the reason capital levels are high] is that the banks left tend to be smaller community banks,” Segal said.

Larger banks tend to have smaller capital ratios, while community banks are more conservative, he said.

The FDIC profile noted that investment in core-capital ratios has been widespread across Massachusetts-based banks and thrifts.

The healthy levels of capital bode well for Massachusetts banks in the face of a housing market downturn, said Paul Driscoll, the Boston-based New England regional manager of the FDIC’s Division of Insurance and Research.

“If there was a downturn, they could weather that much better,” he said.

The FDIC profile focused on the flattening of Massachusetts home prices. After two years of rapid gains, prices were almost unchanged during the first half of 2006, but that has not been the trend across the entire state. In Springfield and Pittsfield, for example, housing prices have remained moderate to strong.

“Looks like the issues are in northeastern Massachusetts,” Segal said.

According to the state profile, the quarterly rate of home price appreciation has progressively slowed since mid-2005 and most recently fell at an annual rate of 1.7 percent in the second quarter of 2006. Sales of existing homes, both single- and multifamily, fell sharply after two years of historically high sales volumes.

“I don’t think any of this should come as a surprise to anybody,” Segal said.

The changes are typical of the waxes and wanes of the housing cycle, Driscoll said, and do not necessarily portend a long-term decline in the housing market.

“Housing is a cycle and there’s no reason for us to believe cycles won’t repeat themselves,” he said.

The decline of existing home sales is having some effect on banks’ volume of loans, but is not yet having an effect on credit portfolios, Segal said. With fewer people buying homes, fewer consumers are taking out mortgages. And with interest rates going up and home price appreciation flat, fewer consumers are interested in home equity loans.

“The consumer is not as willing to take on home equity debt right now,” Segal said.

Decelerating Loan Growth
New construction also is feeling the effects of the slumping home market, and that trend is beginning to tell on banks’ loan portfolios, as well, as the construction loan pool shrinks. Construction of single- and multifamily units peaked in Massachusetts during the first quarter of this year, but permits issued during the second quarter weakened considerably for single-family construction, falling 7 percent below the level of the second quarter of 2005.

Segal said he has heard that some builders are looking for concessions from banks, like lower rates on their loans. Many of their newly built properties are staying on the market longer, so they are looking for a break in loan rates, he said.

According to the FDIC’s state profile, the decline in building permits issued has been most pronounced for single-family residences, while multifamily permits remained strong in the first half of the year. Seasonally-adjusted construction employment rose gradually from approximately 136,000 jobs in the field in the fourth quarter of 2003 to about 143,500 in the first quarter of this year, before easing slightly in the second quarter.

The decline in permits issued for new single-family homes could signal a slowing ahead for the state’s construction industry, according to the profile.

There was good news in terms of loans for commercial real estate and construction and development loans, however.

Concentrations in commercial real estate and construction and development loans, which are historically higher-risk forms of lending, have increased since the late 1990s.

Despite the flattening of the housing market, Segal said he does not think it will decline to the low levels of the late 1980s and early 1990s. Massachusetts’ low rate of real estate loan delinquencies and the health of the commercial real estate sector both bode well.

“One thing we’re still seeing that’s different from the early ’90s is that delinquencies are really low now,” he said.

Segal said that is in part because, unlike in the mid-1980s, the more recent real estate boom has not been characterized by heavy speculative investment in real estate.

“Speculation isn’t here.”

According to the FDIC, past-due residential real estate loans remained at relatively low levels among Massachusetts-based FDIC-insured institutions in second quarter of 2006. The 0.4 percent median delinquency rate for lenders in Massachusetts is much lower than the 1.2 percent national median.

“Growth in the residential real estate portfolio remained relatively strong with a median growth rate of 9.36 percent in the year ending second quarter 2006, a pace that may mask any weakening in loan performance,” according to the FDIC. “Loan growth is expected to decelerate in the near term with the slowing in the region’s housing markets.”

Because most Massachusetts banks hold traditional, and not subprime, mortgages in their loan portfolios, delinquencies have not been much of a problem, Driscoll said. Most delinquencies are in subprime loans, he said.

The returning health of the office market in Boston also is a good sign for banks and the real estate industry in general. The market has continued to improve steadily since 2004, when vacancy rates peaked.

“The downturn in the technology sector and the resulting job losses disproportionately affected the Boston metro area, and consequently, the vacancies in the Boston office market were higher than in most U.S. metropolitan markets,” according to the FDIC. “Minimal construction during the past few years and increased demand for office space since mid-2004 have pushed down the vacancy rate by more than four percentage points. As a result, rents have risen 11 percent since a low in 2004 but remain well below the peak in 2000.”

Office employment, probably the most important factor that drives demand for office space, declined from the beginning of the 2001 recession and have remained depressed.

According to forecasts by Torto Wheaton Research and Moody’s Economy.com, which was noted by the FDIC, office jobs are not expected to rebound fully in the Boston market until 2011.