Why so few banks are unloading problem loans

A small number of banks have sold distressed loans during the coronavirus pandemic, providing more evidence that bankers feel comfortable about the quality of their portfolios.

Hancock Whitney Holding in Gulfport, Miss., sold a large book of energy loans last summer. Ameris Bancorp in Atlanta and Great Western Bancorp in Sioux Falls, S.D., shed several hotel loans, while OceanFirst Financial in Red Bank, N.J., and Chemung Financial in Elmira, N.Y., parted with commercial loans.

Few other announcements have come, even after billions of dollars of loans emerged from deferrals granted during the earliest days of the pandemic. It is a far shorter list than what many industry observers expected last spring when coronavirus restrictions triggered a recession.

The conclusion: Credit quality is holding up, reducing the urge to purge loan portfolios.

“We just aren’t seeing a lot of pressure for loan sales because credit isn’t nearly as bad as a lot of people thought it would be seven or eight months ago,” said Damon DelMonte, an analyst at Keefe, Bruyette & Woods. “The few we’ve seen, there have been some specific, strategic reasons.”

To be sure, most banks continue to have large loan-loss reserves set up in case things go sideways. But few are charging off loans for now.

Great Western had outsize exposure to the hotel industry, which has been hard hit by the travel restrictions imposed to slow the spread of the virus. A hospitality sector recovery is dependent on the successful rollout of virus vaccines, a process underway but uneven so far.

Against that backdrop, Great Western has trimmed its hotel portfolio — excluding casino properties — by 20% through multiple loan sales priced at a 12% discount to face value. About $209 million of loans backed by hotels were sold in the fourth quarter. Hotels accounted for about 9% of the company’s total loans on Dec. 31.

The company recorded charge-offs, but the sales also reduced troubled loans. Great Western’s loan-loss provision fell by 30% in the fourth quarter from a quarter earlier to $11.9 million.

“We focused on those [loans] that were either criticized, classified or with declining trends,” Stephen Yose, Great Western’s chief credit officer, said during the $12.8 billion-asset company’s recent earnings call.

With the potential for successful vaccination programs and a rebound in travel, Yose said Great Western is not pursuing further loan sales.

“I feel very good about the loan sale and trying to de-risk our hotel portfolio,” he said. “We are really not looking at future portfolio sales. … That is not a strategy going forward.”

The $20.4 billion-asset Ameris made a similar move in the fourth quarter, selling 25 hotel loans totaling $87.5 million at 82% of their face value.

The bank recorded a related $17.2 million charge-off, but it noted that the sales meaningfully reduced its hotel exposure.

OceanFirst sold $81 million of loans at a nearly 20% discount in a move that contributed to a large third-quarter loss. The $11.4 billion-asset company characterized the moves as a strategic decision to accelerate the resolution of credit losses.

The sales were “aggressive” but “important” to distance OceanFirst from pandemic-specific issues and set the stage for growth opportunities, including acquisitions in 2021, Chairman and CEO Christopher Maher said in an interview.

“We expect that folks will be looking hard at strategic alternatives, probably in the first half of this year. We expect to be doing that as well," Maher said during his company’s fourth-quarter earnings call. "If we can find something that adds value for our shareholders, there's nothing stopping us from doing something immediately."

Loan sales led Hancock Whitney to report sizable second-quarter loss. Chemung sold three nonperforming commercial loans in January.

Federal stimulus, regulatory leniency with deferrals and a slow economic recovery late last year have left few banks willing to take haircuts to move loans off their balance sheets, said Matthew Anderson, a managing director at Trepp.

Selling loans for at least 80% of face value, as OceanFirst and Great Western did, might make sense for other banks. The problem is that many prospective buyers want discounts of 30% or more.

“There’s quite a big spread between the bid/ask right now, in most cases, so we probably will continue to see only a trickle of loan sales for now,” Anderson said.

Bankers have also been struggling to make new loans, putting more pressure on them to hold onto those that they already have, particularly given optimism that the economy could get back on track.

The wild card is the overall efficacy of vaccines. A new wave of loan sales could happen if inoculations fail to stem future outbreaks, industry observers said.

“All bets are off” in that scenario, Anderson said.