Banks' commercial real estate exposure probed

updated 3:01 p.m. ET Sept. 16, 2009

WASHINGTON - The Federal Reserve is stepping up its scrutiny of commercial real estate loans at smaller banks, where delinquency rates have risen sharply.

Instead of reviewing individual banks, Fed examiners are comparing results across the industry to better assess broader risks, a Fed official said Wednesday. The official spoke on condition of anonymity because of the sensitive and confidential nature of bank reviews.

Delinquency rates on commercial loans have doubled in the past year to 7 percent as more companies downsize and retailers close, the Fed has said. Small and regional banks face the greatest risk of severe losses from commercial real-estate loans. Those soured loans are contributing to a rising number of bank failures.

The Fed review is focused on roughly 800 regional and community banks, the official said. The Fed's "stress" tests earlier this year on the 19 biggest banks already examined commercial real-estate loans.

Unlike the "stress" tests, the Fed's examinations of smaller banks are not expected to be made public. The extra scrutiny of commercial real estate loans is being done through the normal supervisory process, the official said.

Based on the government's "stress" test results in May, Bank of America Corp., Citigroup Inc. and Wells Fargo & Co. were among the 10 banks told they would have to boost capital by a total of $75 billion to cover potential losses.

Some of the lessons learned from those tests are being applied in the examinations of smaller banks, the Fed official said. The biggest change in technique coming out of the stress tests was the importance of analyzing results — risks and problems — industrywide, rather just at the company level.

Credit troubles have spread beyond the dodgy mortgage-backed securities that were at the heart of the financial turmoil that erupted two years ago and reached a crisis point last fall.

Ninety-two banks have failed this year, according to the Federal Deposit Insurance Corp. Hundreds more are expected to collapse in the next few years largely because of problems with commercial real estate loans.

Separately, the Fed is extending its consumer oversight to subsidiaries of holding companies that own big banks.

Those duties include consumer protections involving home loans, credit cards and other financial products. The Fed said it is taking the action to respond to a "need for more effective supervision and consumer protection."

It's part of a broader move by the Fed to ramp up its consumer protection oversight. That's happening as the Obama administration wants to strip the Fed of some of those duties and put it in a new regulatory agency that focuses solely on consumer protections for financial services and products.

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