Banks believe they are well-prepared for commercial real estate fallout

Large banks that are office lenders have avoided fresh big hits to their earnings so far this reporting season.  (CHARLY TRIBALLEAU/AGENCE FRANCE-PRESSE/GETTY IMAGES)
Large banks that are office lenders have avoided fresh big hits to their earnings so far this reporting season. (CHARLY TRIBALLEAU/AGENCE FRANCE-PRESSE/GETTY IMAGES)


Banks have built up substantial reserves against office loans going bad.

For another quarter, big banks saw only a smattering of losses on office loans. But lenders still remain braced for a lot more.

Seemingly every week brings fresh headlines about office towers selling at deeply discounted prices. Yet so far this reporting season, large banks that are office lenders are avoiding fresh big hits to their earnings. Partly that is because they have already set aside sizable reserves for future losses over the past few quarters. So they have taken the money out of prior earnings through credit provisions, preparing ahead of time for losses driven by vacancies or rising interest rates.

Through first-quarter reports so far, across a group of large banks reporting the figure tracked by Autonomous Research, the median was reserves of 8% for office loans. That is steady for those banks from the fourth quarter of 2023. Across all banks and all loan types, the loan-loss reserve ratio was well under 2% in the fourth quarter, according to Federal Reserve data.

A jump in actual charge-offs might allow banks to draw down those office-reserve levels, reassuring investors that the worst is behind them. For now, though, banks are mostly keeping office-loan reserve ratios elevated, even as some losses flow through.

“To use a colloquialism, the pig is going through the python, and it’s going to take a few more quarters for that to fully work its way through," Citizens Financial Group Chief Executive Bruce Van Saun told analysts. “But we’re not seeing any surprises, which is the good thing about this."

PNC Financial Services Group Chief Executive William Demchak told analysts he believes that values for some offices have dropped close to 30% or 40%, or even more. “We do feel that we’ve been ahead of this game, that we’re reserved correctly," he said. “But this is going to play out over time, and your eyes aren’t lying to you when you look out and see vacancies."

The Pittsburgh-based bank reported $7.8 billion in office commercial real-estate loans as of the end of the first quarter, with $50 million in net charge-offs in the quarter, down slightly from the fourth quarter. Its reserves stood at 9.7% of office loans, up from 8.7% at the end of 2023, though the portfolio was also shrinking in size.

At U.S. Bancorp, commercial real estate nonperforming loans rose from 1.45% of those loans in the fourth quarter to 1.71%, which it said was primarily driven by office properties. The Minneapolis-based bank maintained its reserve coverage ratio on office loans at over 10%. “The thing to keep in mind with respect to commercial real estate office space is that we’ve aggressively reserved for that," Vice Chair Terry Dolan told analysts. So even as nonperforming asset levels tick up, “we don’t see that as a real impact from a [profit-and-loss] standpoint," he said.

Bank of America recorded 16 office loan charge-offs in the first quarter, four of which were the result of sales activity. But Chief Financial Officer Alastair Borthwick told analysts that “we believe the losses on these office properties have been front-loaded and largely reserved," and that based on current trends the bank expects to see losses move lower in the second quarter, and then again in the second half of the year compared with the first half.

Earlier this year, New York Community Bancorp was hit with a wave of concern about its commercial real estate lending, particularly about loans to rent-stabilized apartment buildings that are vulnerable to rising rates to refinance mortgages. But it was a big jump in the bank’s loan-loss reserves, not its actual losses, that accounted for most of the hit to its earnings. Peers appear eager to avoid similarly sharp changes to their reserves, especially at this stage of the cycle.

Higher-for-longer interest rates could force banks to wait even longer to refinance commercial mortgages on offices, apartment buildings or warehouses that are collecting steady rents. Of course, inflation helps some properties raise rents, too.

The direction of rates doesn’t matter as much for some of the most troubled loans, such as those to office buildings that are mostly vacant, if they aren’t generating much if any cash flow. But the properties that have that problem are likely already well-known to their lenders.

Investors should definitely stay vigilant about the state of commercial real estate. But that doesn’t mean banks have been blind to the risks.

Write to Telis Demos at

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