The rates First Republic Bank was willing to offer, made it a valuable partner for refinancing high-cost construction loans into low-interest permanent loans. iStock illustration
All other things being equal, the disappearance of a well-known bank from the local real estate lending market would send competitors rushing in to scoop up borrowers looking for new partners.
But First Republic’s collapse two weeks ago is likely to leave a longer-term void in Greater Boston, with banks and other major sources of real estate capital under pressure.
The scale of First Republic’s commercial real estate lending belies its outsized role in the local real estate ecosystem.
In Suffolk County, the bank made up just under 1.69 percent of all commercial real estate mortgage lending last year, according to data from The Warren Group, publisher of Banker & Tradesman, making $35.68 million worth of purchase and $136.51 million worth of refinance loans. Statewide, it made over $81 million worth of commercial purchase loans and $421.35 million worth of refinance loans in 2022.
But the rates it was willing to offer, particularly to developers who were also depositors, made it a valuable partner for refinancing high-cost construction loans into low-interest permanent loans after an apartment building’s ability to draw tenants had been proven out.
“First Republic was one of the go-to banks for stabilized residential assets where you could sit with them at 10-year money and a 55 percent loan-to-value ratio,” said Miles Lynch, CFO at Boston-based developer City Realty. “Their [interest] rates would blow other banks out of the water.”
Without that certainty that a property’s construction loan could be refinanced at a reliably stable, low rate once a building was stabilized, City Realty Director of Acquisitions Cliff Kensington said, multifamily developers are having to shoot for higher profit margins on projects where construction costs and affordability mandates are already squeezing them. The net result: Fewer projects will pencil out, and fewer developers will be willing to take the plunge on getting new projects permitted.
Pessimism abounds, too, that First Republic buyer JPMorgan Chase will step into the bank’s shoes. According to The Warren Group, the bank made up around half as much of the Suffolk County commercial mortgage market by dollar volume last year, despite being a much bigger bank, and made around half as many refinance loans statewide, albeit at much greater dollar amounts.
Banks Face Many Pressures
Even before First Republic failed two weeks ago, credit was already getting tighter at the nation’s banks. The Federal Reserve’s Senior Loan Officer Opinion Survey, or SLOOS, reported 52.5 percent of banks tightened lending standards for construction loans “somewhat” and another 21.3 percent tightened them “considerably” during the first quarter. For loans secured by multifamily properties, 54.8 percent of banks reported tightening standards somewhat and 12.9 percent said they did so considerably.
“We’re in a situation where banks really at every level are looking at their balance sheet and focusing extensively, if not exclusively, on their liquidity and their deposit bases,” said Manaus Clancy, a senior managing director at research firm Trepp. “Rather than putting money to work, putting it in a project where it’d be hard to pull it out quickly, they’d rather keep their powder dry.”
These liquidity pressures mean less money is available for a bank to lend out, said Rockland Trust Co. Chief Commercial Lending Officer James Rizzo, leading institutions to prioritize borrowers they have existing relationships with when they come looking for help financing their latest venture.
“You want to be there for your clients, you want to support them,” he said.
The lower level of deposit activity a real estate borrower will generate is also a turn-off for many banks given their need to prioritize liquidity right now, Rizzo said, compared to traditional commercial and industrial lending that helps businesses operate and grow.
“Usually, an operating company’s deposits tend to help the overall profitability of the relationship. You’re funding a percentage of yourself, and that has a particular attraction now,” he said. “Commercial real estate doesn’t have the same dynamics.”
Bankers are also wrestling with how much risk they want to tolerate in this uncertain economic environment – and that is further encouraging banks to prioritize developers they know well, who also have a proven track record in the type of property they want to buy or develop, said Cambridge Savings Bank Senior Vice President Ian Brandon.
“No one can say with any great certainty what the market will look like over the next six to 12 months, but it’s certain that something is happening” that could tip the economy into a recession, said Brandon, the bank’s head of commercial real estate.
Other Loan Sources Face Limits
The financing environment facing Boston developers is better than in most other big cities, thanks to its diversified economy and the durability of its higher education sector, Brandon said.
“The equity on the sidelines waiting to come into Boston is still very, very strong. A lot of what we find is for players well out-of-market – financial institutions or funds – Boston is viewed as one of the most desirable areas from an investment perspective,” he said. “But that has slowed.”
Some of that slowdown, Trepp’s Clancy said, is tied to investors’ fears about the office sector and jitters connected to recent bank failures. Real estate investment trusts run by prominent names like Blackstone and Starwood have had to limit or halt withdrawals of money several times over the last six months. And, true to its historic performance in times of high volatility, the market for commercial-mortgage-backed securities has become “particularly dry,” Clancy said.
That largely leaves insurance companies as the biggest source of capital for commercial real estate projects, but they only invest in large properties.
“They’re not looking to invest $20 million for the grocery-anchored shopping center in Tuscaloosa. That’s always been the domain of banks,” Clancy said.
Insurers looking to lend for commercial real estate projects or purchases are also charging a risk-adjusted premium and are looking for stronger covenants to protect themselves, said Jonathan Flitt, global head of alternative investment solutions at research firm Clearwater Analytics, which recently published a survey of institutional investors that found 58 percent were looking to hold steady or increase investment in real estate and infrastructure projects.
And when it comes to the kinds of multifamily housing that Boston sorely needs, Rockland Trust’s Rizzo said, projects that don’t boast multiple hundreds of apartments just don’t make the cut.
“It’s going to be a tough year or year and a half to get money for real estate loans,” said Ed Chazen, a senior lecturer on real estate topics at Boston College’s Carroll School of Management.
Still, it’s not as though the pool of real estate capital has completely dried up. Fannie Mae and Freddie Mac continue to be steady lenders for multifamily projects, Chazen said. And some banks continue to lend.
“For banks that have capacity to lend outside of existing relationships – and Rockland Trust is one of those – we’re really focused on what we’ve always been focused on. A: The math has to work, and you’d be surprised how often it doesn’t. B: You [the borrower] have to be experienced,” Rizzo said.
The bank is actively seeking relationships with developers and real estate investors who used to be clients of Silicon Valley Bank and First Republic Bank, Rizzo said, but “we’re not going to rush into that fray, it’s not who we are. We’re going to be smart and steady.”
Correction 3:13 p.m. May 15, 2023: This article has been corrected to reflect that Cliff Kensington’s title is director of acquisitions City Realty.
