Many of the U.S. banks with the largest reported commercial real estate office lending books had higher exposure to the sector at the end of 2022 than a year earlier.

Of the 17 banks that disclosed outstanding office exposure of at least $400 million as of the end of the year, all but four reported larger office lending books than at the end of 2021, according to S&P Global Market Intelligence data. Yet on a quarter-over-quarter basis, nine of the banks trimmed their outstanding loans in the sector as of Dec. 31, 2022.

Office loan exposure was an oft-cited area of concern in fourth-quarter 2022 earnings conference calls, with several executives saying their banks are taking steps to account for elevated risks in the sector amid weakening demand and challenging economic conditions.

Signs of caution

East West Bancorp Inc., the third-largest office loan lender in the group, had the highest sequential decline in its office loan exposure and the second-highest year-over-year fall among its peers. The company's outstanding loans stood at $2.52 billion at the end of 2022, down 14.3% from the third quarter of 2022 and 10.0% from the corresponding quarter of 2021.

Prosperity Bancshares Inc. had the second-largest sequential decline and the largest year-over-year decline in the group. The company reduced its office lending book to $903.0 million at the end of 2022, down 4.0% from the previous quarter and 15.1% from a year earlier.

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Despite reducing its office loan book from the third quarter of 2022, TriCo Bancshares had the highest year-over-year increase in office loans in the group. The company's total office loans outstanding were $463.0 million, down 0.2% sequentially but up 27.5% year over year.

Wells Fargo & Co. has the largest office exposure as of year-end 2022, with $36.14 billion, representing 3.8% of gross loans. The bank sequentially increased its exposure in the sector by 2.7% in the fourth quarter of 2022 but lowered its exposure by 1.6% from a year earlier.

"The office market is showing signs of weakness due to weak demand driving higher vacancy rates and deteriorating operating performance as well as challenging economic and capital market conditions," Wells Fargo CFO Michael Santomassimo said in a Jan. 13 earnings call.

"We do expect to see stress over time and are proactively working with borrowers to manage our exposure and being disciplined in our underwriting standards," the Wells Fargo CFO said. The bank is being "very watchful" of cities such as San Francisco, Los Angeles, and Washington, D.C., Santomassimo added.

Tech layoffs could add pressure

With tech companies on a layoff spree, office spaces may come under further pressure due to a lack of demand.

Heritage Financial Corp. President and CEO Jeffrey Deuel believes that the number of office space vacancies is expected to rise going forward, driven by the "breathtaking number" of people being laid off in the tech industry. The layoffs coincide with tech companies reducing their footprint to move to a hybrid work model, which has already plagued the demand in the sector, Deuel said in a Jan. 26 earnings call.

Heritage Financial, where office loans represented 14.3% of loans outstanding at year-end 2022, increased its exposure to such loans by 1.8% sequentially and 9.4% from the year-ago period to $580.0 million.