US bank loan sales are expected to surge this year as institutions' increased sale appetite is bolstered by improved pricing dynamics.
US banks' loan sale appetite is surging as they look to offload risk ahead of a deterioration in credit quality, sell loans that no longer fit their strategies, and get rid of loans that require too much capital retention in the face of new regulatory rules. M&A is also expected to drive more loan sales in 2024. Luckily, banks' increased appetite comes at an opportune time when long-term interest rates are falling, giving way for improved pricing dynamics.
"We think '24 will be a much more robust year in the secondary market," William Looney, president and CEO of The Debt Exchange Inc., said in an interview.
Banks' increased appetite
Right now, banks are being much "more intentional" and "more purposeful" about what loans they keep on their books, and "the concept of loan sales definitely has come up more," Eric Berardi, partner at Alston & Bird LLP who advises on distressed real estate loans, said in an interview.
One major reason banks may look to sell more loans in 2024 is to get ahead of an expected credit quality downturn, particularly among sectors already showing signs of stress such as commercial real estate (CRE), multifamily and auto lending. In particular, office CRE is facing a lot of stress following a shift in in-office working after COVID-19, and banks may see loan sales as a way to offload some risk, experts said.
With billions of dollars' worth of loans coming due, 2024 will be "a turbulent, turbulent year for office," with many lenders unwilling to refinance even at lower rates, Berardi said.
As banks decide which loans to offload, they will likely opt to keep loans with customers who have broader relationships with the bank while selling loans with customers that are more transactional.
"They will be more willing to look at moving those loans off their balance sheet because they don't really add other value to the institution," Looney said.
Chris Flanagan, head of securitized products research at Bank of America Global Research, agreed that banks will look to get rid of loans that
Banks' increased interest in loan sales is also driven by the current environment, in which capital and liquidity are key and recent regulatory proposals favor banks with fewer risk-weighted assets (RWAs), experts said.
Larger banks are feeling regulatory pressure to reduce RWAs in preparation for the Basel III endgame capital requirements, which would change the way RWAs are calculated and require banks to hold more capital against them. Many banks, such as KeyCorp, are actively lowering their RWAs in anticipation of the rule changes. Loan sales are a way for banks to reduce their RWAs, which in turn would conserve capital, Looney said.
"You've had the regional banks and the superregional banks particularly and a little bit on the smaller end of the bank spectrum — they've all been on this risk-weighted asset diet in 2024, because they've been trying to build up their [common equity Tier 1] ratios [and] take pressure off the funding side," Gary Tenner, managing director and senior research analyst at D.A. Davidson, said in an interview.
Moreover, an expected uptick in M&A will also help drive loan sale activity. In a transaction, a buyer will sometimes sell loans it acquired from the seller that do not fit the company's balance sheet or strategy.
"It's fair to say M&A activity is likely to pick up, and M&A activity often leads to loan sales, either immediately before or immediately after," Looney said.
Improved pricing
As banks' loan sale appetite increases, it will be easier to get deals done as falling long-term interest rates improve pricing.
Higher interest rates in recent quarters have translated into generally lower loan-sale prices, which has kept a number of sellers from completing transactions, Looney said. But with long-term interest rates falling in recent weeks, pricing is improving and should spur more deals, he said.
"Higher interest rates have translated into generally lower prices which has kept a number of sellers from completing transactions due to price," Looney said. "With rates lowering, presumably prices should rise and help bridge the bid-ask gap that prevented transactions from closing in the past year."