Independent Banks Relying More on Real Estate Loans

Independent banks in California are relying more heavily on real estate loans than ever before and, despite a current downturn in the market, will continue to invest much of their money in such loans.

That is the finding of a recently released study by Orange County banking consultant Gerry Findley that found that banks had 55.3% of their assets in real estate loans at the end 1989, compared to 27.5% at the end of 1979.

The percentage of real estate loans now is above historic levels for California banks, according to Findley and state regulators. But Findley projects that it will remain high--51.5% by the end of 1994.

The reliance on real estate comes in the face of warnings by federal regulators last April that property values in some markets nationwide, and including Orange and Santa Clara counties, were softening and that lenders were taking on higher risks with mortgage and commercial building loans in those areas.

Betting on real estate back in the early 1980s left many institutions buying the farm--and selling it at a loss--when the economy took a dive. More than two dozen banks, including 10 in Orange County, failed since 1982.

The 38 banks based in Orange County are all small independents with less than $500 million each in assets. Many have beefed up their real estate lending, especially as the struggling savings and loan industry has been retrenching under new federal rules to raise more capital.

Despite the increased reliance on real estate, Findley and his son, banking attorney Gary Findley of Brea, believe that banks in the state are better prepared to weather the storms of the next few years.

The warnings by federal regulators “made bankers all of a sudden pay attention,” the younger Findley said, especially as federal examiners began scrutinizing real estate loans.

In particular, he said, real estate construction loans have come under fire as worries that counties such as Orange and Los Angeles are overbuilt. The vacancy rate in office buildings is more than 20% in Orange County and housing sales have slowed.

Statewide, construction loans by independent banks increased to 20.7% of assets at the end of last year from 9.4% at the end of 1984. But construction lending is already tightening and will likely fall back to 12% by the end of 1994, Findley’s report said.

“Try to get a real estate construction loan these days. You’ll never find it,” Findley said.

Stanley Cardenas, senior deputy superintendent of the California Department of State Banking, said his agency is conducting a study of the impact real estate lending may have on banks. The study is expected to be completed early next year.

“One of the things we like to see in our (state-chartered) banks is diversity,” he said. “But real estate lending in and of itself doesn’t mean there is a problem. The problem is if the overall economy, regardless of what area you’re lending in, is going to expose banks to possible losses.”

The Findley study included both state-chartered and nationally chartered banks. The study also showed that banks are spending more money to attract deposits, putting a crimp on their profit margins, and that their ratio of loans to assets is dropping, a reflection of increased regulatory pressure to put money into government bonds and other similar investments, Findley said.

BANKING ON REAL ESTATE

The percentage of real estate-related loans made by California’s independent banks has nearly doubled in the past decade.

Real estate loans 1979 1984 1989 Construction 5.61% 9.37% 20.74% Residential 12.19 16.43 16.93 Commercial/industrial 9.68 12.14 17.66 Total 27.48 37.94 53.33

Source: The Findley Reports/California Banking Newsletter