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Real Estate and "Phone Book Guys"
Banks are exercising options to call in the good loans -- now that most the bad ones have been written off.
In the U.S, they have become as ubiquitous as hotdog street vendors, or a McDonald's at every highway exit – lawyer ads on the back of the phone book. In the age of Blackberries, phone books aren’t what they used to be, and those back-cover ads are unbelievably expensive. Yet, with the lawsuit now pending by the state of New York against Swiss bank UBS AG, those phone book lawyer guys are likely to get a whole lot busier.
Atlanta, Georgia, is known regionally as a real-estate town. Residential, commercial and industrial real estate have fared very well over the previous decade. Unfortunately, this good run is coming to an end. Even as the credit crunch began to bite, there were billions of dollars worth of deals in the pipeline. That pipeline is now empty, commercial financing is at a standstill, and banks are unwilling to lend; the only deals getting done are cash – and there are only a few of those around.
Built into almost every commercial and industrial loan is a "call provision" – as in, the bank's right to "call in" its loan. Over the past decade, no one could think of any circumstances that would trigger these provisions, as nobody could fathom the dire capital shortage conditions regional banks now find themselves in.
Banks need the money, and they are exercising those calls on the good loans, now that all the bad loans have been written off. Sometimes millions of dollars become due overnight to building owners or developers – even those with an excellent payment record. They, in turn, are moving against lessees to gather this capital for the banks.
You can see where this is going. Good properties immediately become distressed, everybody is chasing everyone else for payment, someone comes up short and…bring in the "phone book guy."
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We all know about IndyMac Bank and the two other recent smaller bank failures. No worry, the FDIC is there to re-allocate the deposits and open the doors on Monday. Only I wonder what will happen when the FDIC runs short of T-Bills to sell. Oh, sorry, the Fed – they have plenty of Treasuries to sell. Except, whoops, they have already depleted their balance sheet by 40%…
Atlanta is like many other major U.S. cities: We have big, beautiful houses with big lawns, owned by families with big accounts at the regional banks. Many of these accounts are far larger than the FDIC's maximum allowable refund.
I find it hard to believe that businesses and wealthy individuals will find it acceptable to receive pennies on the dollar if their banks fail. I bet those phone book guys will get so busy that they just might move to the front cover.
Bill Fox is EWI's Senior Bonds Analyst. He has been involved in the markets since graduating in 1988 from Vanderbilt University. He joined EWI in 1994; most of his subscribers are professional bond traders.