Let's Talk Loans - Vol. 94

Welcome back to Let's Talk Loans. Talking points surround lending products: commercial real estate, residential real estate, and consumer lending (auto, unsecured, cards, solar, home improvement). We'll also discuss some of the challenges that banks, credit unions and lenders are facing when looking at the balance sheet. I hope you enjoy the banter as it comes from the Raymond James whole loan trading desk. If you do, please like, share or subscribe to the newsletter!

This week we are diving into the Q1 numbers. Courtesy of Bill Moreland , BankRegData.com , taking a look at the balance sheet, and seeing what's ticking in the loan world. This is specific only to banks, no credit unions in this data. The project I created for myself was a total look at the balance sheet, specifically as it pertains to loans. Focusing also on the size of the institution, what type of loans do they carry? An example here would be credit cards, which is an asset you'll soon see is held mostly by a few very large banks. There is so much being written on performance, so I'm also taking a look at DQ and charge-off trends by some of the major asset classes.

Total loans. The first observation is total loans have somewhat peaked since the pandemic. If you ever wondered what the $5tn dollars dumped on the US consumer ever did to the lending market, look no further. Was Q4 2023 at 12.4tn the high water mark for this current cycle? We saw a slight downtick in loans outstanding in Q1, which is consistent with what we saw happen in 2023. Total delinquent loans has grown from 155bn in Q2 2021 to 184bn in Q1 of 2024. Some of this is the numerator and denominator both having grown but the total percentage delinquent loan has increased to 148bps and the trend is upwards. I'll look deeper into performance in this piece, but in the same window of time charge-offs have also risen from 45bps to 79bps.

Looking at the major food groups of loans, residential lending is the #1 asset on the books making up nearly 1/5th of loans on the balance sheet. I'll pick on a few more clearly defined categories (skipping "all other loans") such as CRE (both owner occ and non-owner occ), credit cards, multifamily, and autos. Note this is pulling off call report data.

CRE has been the product that catches all the media headlines, so we might as well start there. Note that this does not break out office but only classifies loans as owner occupied, non-owner occupied and multifamily. There is a construction and land loan component that I'm ignoring in this writing.

CRE Owner Occupied. My first observation is this asset continues to grow in balance outstanding but is only half the size of non-owner occupied CRE. It's been reported lately that owner occupied lending has out performed the non-owner occ segment of CRE. Delinquency numbers have come down from their pandemic highs. Q2 2021 was 112bps and is now Q1 2024 87bps. However, we have bounced off our Q2 2023 low of 74bps. You'll also see that as a percentage of owner occupied outstanding, more of these loans live on more mid-tier sized balance sheets. While smaller than non-owner occ, what's interesting is where the delinquencies are climbing. In the image below, total delinquent loans by bank asset size, shows the percentage of loans outstanding that are delinquent. The numerator here would be delinquent loans, the denominator would be total CRE owner occupied outstanding, resulting in the reported percentage. It's fairly noticeable that smaller institutions are under more distress than their larger counterparties, but as you shift over to charge-off rates the resulting pain is still relatively minor. If you were to dive deeper into the TDR numbers, restructurings and nonaccruals are on the climb. I suspect we might see these charge-off numbers increase over time as restructurings can be a precursor to loss.

CRE Non-Owner Occupied. Unlike their owner-occupied cousins, this asset appears to have plateaued around Q4 2022 as there hasn't been much meaningful growth for over a year. What hasn't plateaued are delinquencies. They are very much on the rise. However, there is a significant difference in the tier 1 bank performance compared to their smaller peers. The mega banks have been very aggressive in charging this off, while the more mid-sized institutions have not seen the delinquencies, nor the charge-offs, register yet in this sector. Perhaps more alarming is the size of the industry, twice that of owner occupied lending. TDRs and non accruals are on the rise and that leads me to question if we are only in the early innings of further charge-offs in the more regional and community depository space. This is where the extend and pretend story starts to come into play.

Multifamily. Here I would say that multifamily lending is slowing but perhaps not yet found its recent cycle peak. That's not to take away from what has been significant growth coming out of the pandemic. Long term, I still see this sector as something the US housing market desperately needs. We have a housing shortage in 1-4 family, multifamily is a partial solution here. In the near term, the sector is coming under some attention and that's largely surrounding rates. Legacy vintage multifamily (mid 2010's) is likely in a very attractive spot from a valuation standpoint. Those loans originated in the last 2-4 years might be a little stressed on valuations. However, delinquencies are on the rise and this has always been a thin margin business. What's interesting here is a similar trend to what we saw in non-owner occupied lending. The tier 1 shops have been more aggressive in charging this product off but note the charge-off percentage is a small fraction to that of asset size. Smaller depositories are not as exposed here as their more regional or national competitors. However, delinquencies in those smaller shops have recently spiked, indicating that further losses could be showing up soon in quarterly earnings as extend and pretend continues.

C&I. You can see this very large corner of lending has also plateaued and is even slightly in retreat. Q4 2022 was the recent peak and we've seen a small fall off since. Following a similar theme to all assets, delinquencies have bubbled up here and currently sits at 116bps up from its pandemic low in Q3 2023 of 97bps. Here performance is a bit more uniform. While percentage of total assets is a bit more top weighted to tier 1 institutions, regional and community banks also play a significant role in this corner of lending. Again, a similar theme to CRE lending, larger institutions have been more aggressive in charging loans off and smaller institutions have seen a more significant increase in the growth in delinquencies. Again, I point to extend and pretend. TDR and non-accruals are significantly on the rise. However, we also need to note that recognized losses in C&I are much higher than that of commercial real estate. That either points to we are further into the pain cycle here, or extend and pretend is more prevalent in commercial real estate.

Mortgage. The largest asset on the balance sheet representing 1/5th of all loans. I would suspect this asset has peaked or is near its peak largely due to interest rates. It's well documented that the 7%+ mortgage rate, coming off historic 3% mortgages, has "locked in" borrowers. The cash out refinance business is firmly dead. Here delinquencies are falling from their pandemic highs and the book is one of the bulwarks of consumer lending performance. This asset is very broad-based for tier 1's, regionals and community depositories. Property values have largely held in, delinquencies have been on the decline, and charge-offs are a handful of basis points. If you are a glass half empty kind of reader, you'll point to higher delinquencies in smaller institutions. I see this sector of lending as one of the reasons that the economy has remained so strong due to a low debt service on your mortgage allowing the consumer to spend elsewhere.

Autos. The banking auto lending sector has been under heavy competition from credit unions and domestic originators. Banks have tightened in underwriting guidelines as they saw a spike in delinquencies in 2022 and originations have fallen. Unfortunately, delinquencies are back on the rise and that 2022 vintage remains a problem for auto lenders as car values got out of whack during the pandemic. It's important to note, there are a handful of MASSIVE bank auto lenders here. Capital One and Ally each have 73bn, a meaningful slice of the pie. That's not to say community and regional banks are not players in this space, but this is somewhat top weighted and those lenders look a little deeper in credit than others. Generally speaking, you can see as you get to smaller lenders, DQs and charge-offs are lower than some of their larger counterparties.

Cards. Cards have been on the rise and several of the mega banks have really pushed in here. This has left me scratching my head for some time. As pandemic savings have run dry, Americans start to lean on their credit cards and I feel as if this phenomenon is as old as plastic. Back during the great financial crisis (GFC), lenders realized this quickly and slowed CC lending and THEN charge-offs hit. Here, we see lending continuing to increase AND DQs / charge-offs are growing. Not a great combination. Should the economy hit the skids, this corner of the lending world could have more problems arise. Similar to autos, this is a space that is dominated by the JPMs, Citi, Capital One, Discover, BofA and Amex's of the world. It's not to say smaller depositories don't have problems. You can spot the charge-off rates being pretty severe for those community and regionals who still own their credit card books.

Lastly, let's give some context to charge-offs. Looking 10 years back, factoring in the pandemic, how do today's numbers compare to when we were coming out of the GFC? I think the context is helpful. Owner occupied CRE has been, and continues to be, just a handful of basis points today and was modest 10 years ago. Non-owner occupied CRE does not get to enjoy the same good fortune. We are already well above the 10-year historical numbers and trending higher at 42bps. Multifamily has shown a recent bump, but it's important to note it's only 5bps today. C&I enjoyed the COVID relief during the pandemic (PPP) but has spiked back to more historical norms. We are not yet back to the early COVID highs but we are easily back into the mid 2010 averages. As to residential 1-4 family? There just isn't much to talk about. Obviously the GFC hammered this sector of lending quite savagely and the market has been super conservative ever since. Losses in resi are non-existent. Auto lending is alarming. During the GFC the joke was "you can sleep in your car but you can't drive your house to work". Meaning that cars were more important than your lake house or rental property. I've often wondered if UBER or work from home might change this dynamic, and I have to say this chart might be showcasing that shift in behavior. Autos are through their worst levels in over a decade. Credit cards enjoyed a strong reprieve when the stimulus money was thrown to us. Losses are spiking and well through their 10-year highs. There's nothing to like about the CC trend right now.

This was an interesting exercise to give me a bit more of a global lending perspective. I hope it was helpful for you as well. Have a great weekend. (M24-493889)