Banking turmoil may encourage the Fed to tread carefully. Over the past year, the Federal Reserve has aggressively increased interest rates in a bid to cool inflation, creating challenges for commercial real estate investors and lenders. Messaging from the Fed prior to the recent bank failures implied that they would remain assertive, but the high-profile collapses could encourage a more cautious stance. While the banking sector’s stress rippled across capital markets and prompted many lenders to widen their spreads, the higher probability of more stable rates in the near term could serve as a positive for real estate transactions. Government agencies have also been quick to respond, soothing concerns that a broader contagion will occur.

Regulators seize the nation’s 16th-largest bank. On March 10, California state regulators placed Silicon Valley Bank (SVB) into FDIC receivership, marking the largest banking collapse since 2008. Two days later, New York authorities closed Signature Bank for irregular practices. The bank was also heavily engaged with clients in the beleaguered cryptocurrency sector. While both institutions faced similar underlying troubles, each collapse was independent of the other. The chain of events leading up to these failures extends to the pandemic. Tech companies did very well during that time, leading to heightened inflows of deposits into SVB, which is a prominent financier of the sector. Needing a place to store all this cash amid excess liquidity, the bank allocated a large portion of its capital base to securities and long-term U.S. treasuries. Most of this was done prior to the Federal Reserve’s rapid series of interest rate hikes, thus the value of those government bonds dropped as rates increased, producing paper losses. Those unrealized erosions would not have been problematic, however, if tech-industry-specific headwinds did not prompt a wave of firms to withdraw funds, placing immense pressure on SVB

Tech sector stress put SVB in a difficult position. The technology industry, especially startups that grew at an unsustainable pace during the pandemic, have been among the most visibly impacted in recent quarters. Layoffs have been much more common in the sector relative to other labor segments, while the initial public offerings market and fundraising also slowed down drastically. This coaxed some tech industry firms to withdraw funds from banks like SVB to meet their liquidity needs. As a result, SVB was forced to sell a $21 billion bond portfolio before maturity and incur a $1.8 billion loss to help fund the wave of withdrawals. This activity ignited a powder keg that ultimately led to the bank’s demise.

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Sources: Marcus & Millichap Research Services; Bloomberg; Bureau of Labor Statistics; Capital Economics; CME Fed Watch Tool; CoStar Group, Inc.; Federal Reserve; Moody’s Analytics; Real Capital Analytics; RealPage, Inc.; Reuters; U.S. Census Bureau