Construction lenders now preparing for defaults

Although many developers and homebuilders have tried to keep current on land development and construction loans even as the overall market has deteriorated, the length and depth of this downturn is starting to result in defaults to banks. From an MSNBC story:

Loans to homebuilders and other developers are the latest slice of the credit market under duress, and analysts say banks could face hundreds of millions of dollars in losses as a result.

As commercial and residential real-estate prices decline, banks of all sizes face a growing number of loan defaults from builders unable to sell houses, and from developers whose malls and other properties turned out to be less desirable than anticipated...

Construction and development loans are loans made to builders for properties such as strip malls, office buildings and residential developments. They have been a key source of profit for small and midsize banks.

The percentage of those loans that are 90 or more days past due rose to nearly 3.2 percent at the end of 2007, up from less than 1 percent a year earlier, and is now at levels not seen since the early 1990s, according to the Federal Deposit Insurance Corp...

Comptroller of the Currency John C. Dugan told lawmakers Tuesday that “smaller banks that have exceptionally large concentrations in commercial real estate loans — and there are many of them — face real challenges in those parts of the country where real estate markets have slowed significantly.”

Many of those banks are smaller ones that shifted their lending toward construction and commercial real estate after facing tough competition from national players in the residential mortgage market. Bank examiners will step up their scrutiny of such lending activities, Dugan said in a speech in late January.

“The industry is overexposed to this sector of the real estate market, and it’s going to lead to hundreds of millions of dollars of losses over the next two or three years,” said Gerard Cassidy, a banking industry analyst with RBC Capital Markets in Portland, Maine. “Lending standards were unusually weak during the boom period.”...

In the commercial real estate market, investors have shied away from all but the safest loans. Credit rating agency Moody’s Investors Service said last month the performance of commercial mortgage-backed securities could be challenged this year by a weakening economy and uneasy financial markets. Tighter lending could cause commercial real estate prices to drop between 12 percent and 17 percent, Moody’s said.

Prices and demand for office buildings, malls and warehouses are falling with no signs of stopping soon, according to a report released last month by real-estate research firm Real Capital Analytics.