Brace for West Coast CRE bubble inflated by tech boom: Bank chief
Russ Colombo says banks should tighten up on commercial real estate deals around San Francisco.
The market has been hot in recent years, so much so that prices are about as high as they were before the last recession and the dot-com bust in the late 1990s, said Colombo, the president and CEO of the $2.5 billion-asset Bank of Marin Bancorp.
Fueled by the technology sector, the average rate for prime office space around San Francisco neared $80 a square foot late last year, a roughly 15% increase from three years earlier, according to data from the real estate firm Jones Lang LaSalle.
“This is a time when you see a lot of banks stretching, and we’re very careful not to stretch in this environment,” Colombo said in a recent interview. “If you advance too much and the market falls, you’re going to have a problem on your hands.”
Bank of Marin's commercial real estate book grew by 5.9% last year, a noticeable cool-down from the 16.3% increase a year earlier, according to data from the Federal Deposit Insurance Corp.
While a technology downturn could mean reduce demand for commercial space, Colombo said the market should be fine for the rest of this year.
Colombo's Novato, Calif., company is also interested in acquisitions. It hasn’t completed a bank deal since it bought Bank of Napa in 2017. Colombo said he would like to extend Bank of Marin’s operations beyond San Francisco.
The following is an edited transcript of the conversation with the CEO.
You have warned about industry exposure to the tech sector. How are you feeling about that area now?
RUSS COLOMBO: Everything that happens in the Bay Area is affected by the technology sector because it’s such a large part of the economy. My point was that we’re optimistic about this year, but we’re always cautious.
Our markets continue to be strong, but commercial real estate lending is impacted tremendously by the demand for office space by technology companies. If there’s any kind of falloff in the technology sector, it would have a pretty significant impact in commercial real estate all around the Bay Area.
We watch things like venture capital funding. There’s a pretty interesting correlation between VC funding and the price of commercial real estate in San Francisco. When VC funding for startups starts falling off, then you’re going to have a lot of those businesses disappear, and so the demand for office space will fall off.
The large tech companies, including Google, Facebook and Amazon, occupy tons of office space, particularly in San Francisco. They have plans for significant growth, but if that growth doesn’t materialize then a lot of space will go back on the market, which will have an impact on prices.
We have to be cognizant of what technology is doing to our market and be careful not to lend too much into real estate. … This is a time when you see a lot of banks stretching, and we’re very careful not to stretch in this environment. If you advance too much and the market falls, you’re going to have a problem on your hands.
How does the current market compare with previous cycles?
Real estate prices were at all-time highs just before the dot-com bust in the late 1990s and the recession of 2008. They’re sitting around the same price right now. And they fell dramatically. In San Francisco, lease rates fell by 50% during the dot-com bust. You have to keep that in the back of your mind.
What are you hearing from businesses about their confidence in the economy?
There seems to be a very high confidence level, but I think we talk about recession so much that business owners are thinking that they need to be prepared, because everyone expects a recession by 2021 or so. But this market is one of the best in the country. Unemployment sits below 3% in Marin County, and the biggest problem is finding workers for the lower-paying jobs.
How do you manage CRE risk?
I think what’s happening with a lot of lenders — not just banks — is that they are stretching on loan terms and eliminating some covenants. We’re pretty disciplined in the way we underwrite. Our total net loss in CRE loans that we have underwritten in our 29-year history is just $220,000, and our CRE portfolio today sits at about $1 billion.
What kind of growth do expect in your CRE book over the next year?
We don’t give guidance on expected growth rates, but historically we’ve seen growth rates for the whole lending portfolio of about 5% during the last few years. If you see banks that are experiencing significantly higher growth rates than that, they’re probably doing stuff we wouldn’t do.
Does the recently announced BB&T-SunTrust merger influence your view of M&A?
Not really. We’re looking at more strategic-type acquisitions. We’re a bank that’s primarily located in the north part of the Bay Area, but we’d like to extend that reach throughout the Bay Area. There are banks in the market that would be a good fit for us, so we’ll keep talking to them.
We really would love to do more [M&A] because it’s a nice way to extend our market. From a valuation perspective this is a pretty high point, so there might be desire for banks in this market to sell now.
What do you think about deal pricing?
Prices are high because these banks are trading at pretty good multiples now. We’re in a pretty good position because our currency is trading at a pretty good premium now, so we’re probably in a better position to acquire someone than some of our competitors.