Signature’s loan book may be a tough sell

The former titan of fund finance’s portfolio includes loans that will need steep haircuts. And that’s not the only challenge.

The Federal Deposit Insurance Corporation appears aware that it’s likely to take a significant hit on the sale of former Signature Bank’s capital call line loan book.

The agency has even given discounts to a number of borrowers, as many as a dozen, ahead of the close of bidding for the four pools on offer on September 12, when their true market value will be known, according to one industry source.

The willingness of the FDIC to allow for discounted paybacks, which funds can do by calling capital from investors, may simply represent the inability of some borrowers in the pool to find a new bank to refinance existing lines before they expire ahead of the settlement of any sale to a third-party buyer. The last thing the FDIC needs is a defaulting borrower and run on the bank similar to what caused Signature to be taken into FDIC custody in the first place.

But it may also indicate that the agency is anticipating the discounts individual borrowers are negotiating represent a better deal for it than what it may get at auction.

Technical challenges

What Signature’s capital call line book does have going for it is the quality of its borrower pool. While Silicon Valley Bank’s book, sold to First Citizens Bank in May, had hundreds of loans with dollar notional balances as small as in the low single-digit millions – a potential operational headache for the purchasing bank, at least – Signature’s book includes top industry names, often with loans in the hundreds of millions.

But those loans also feature broadly lower spreads due to borrower quality, and ones much lower than the current market. People familiar with the portfolio say spreads over the benchmark rate are generally between 175 and 200 basis points – far below the current 250bp-300bp range similar borrowers would obtain now. Spreads rose sharply between March of 2021, when the war in Ukraine began to have long-term consequences for the global economy, and December of 2022, as lenders responded to increased deposit costs.

It may also be because the pools may be hard to place simply because of their size. The FDIC already limited its own potential auction base when it announced it would only allow deposit-taking institutions to place bids. But the banks with the largest balance sheets in the capital call line market have, since even before March of 2021, already faced balance sheet and concentration limits, and are now highly selective in extending new loans or even refinancing to existing borrowers.

Smaller banks would have a hard time swallowing a book of 201 loans with a total of $18.5 billion in unpaid principal balance. The FDIC’s best-case scenario would be to place all four loan pools – said to be organized around parameters including borrower/fund size, loan size and spread – with one buyer, reducing the resources it has to spend on executing a sale.

But even placing four pools, ranging between $4.4 billion and $4.9 billion, with four smaller banks could be difficult, at least unless the FDIC offered the buyers steep discounts. That percentage discount could be as much as in the mid-teens, the first industry source said.

“And that’s before you even get into the fact the bidders don’t know what they’re getting; they don’t know what’s in those documents,” said the first industry source. And some of the loans are large, making it harder to place them with a single buyer. “There are any number that are more than $250 million. I’d say dozens. I don’t know where those go,” the person said, adding that there are at least two with balances of more than $450 million.

Deal envy

And buyers of the pool will only get cash accounts associated with capital calls and distributions, of which there is no guarantee in the future.

That contrasts with the FDIC’s sale of much of Silicon Valley Bank’s balance sheet to First Citizens, which included about $56 billion in customer deposits with no premium paid to the FDIC, $35 billion in cash and interest-bearing deposits with other banks and $106.6 billion in assets (of which $68.5 billion in total loans). First Citizens got an approximately $16.5 billion discount on the assets acquired and $35.15 billion in FDIC-provided financing at 3.5 percent.

(The $37 billion fund finance book, of which some $32.5 billion was comprised of capital call lines, was sold at a 14.8 percent discount. The rest of the book included GP lines, NAV loans and other fund finance products).

“The SVB deal was an incredible deal for First Citizens,” one capital call lender said.

But Signature’s portfolio faces other challenges. “With all the worry about the new regulatory capital requirements and [commercial real estate] loan books, it would be difficult to get a bank to take on huge exposures with no deposits,” the person said.

A spokesperson for the FDIC declined to comment.