Description

Perhaps the first solvent FDIC receivership. The long case for Signature Bank (“SBNY”) common equity, SBNY 5 PERP PFDS, and SBNY unsecured notes.

The FDIC has successfully liquidated the majority of SBNY’s assets to GS, PNC and Flagstar (now NYCB). The remaining portion of SBNY’s assets is its $33.2bn performing CRE portfolio. The winddown of this remaining portfolio is likely to occur at valuation exceeding 90% of par, resulting in significant recoveries to SBNY’s unsecured bonds, preferred equity and potentially its common stock.

As a result, the preferred, common equity and bonds have significant base case upside of 6.3x, 7.5x, and 2.2x respectively. Key points to the thesis below:

1. JV structure creates alignment: the FDIC receivership has split the loans into various pools, each of which has a JV partner who will manage the winddown. Like in previous receiverships, this structure is designed to maximize recoveries on the underlying loans by slowing down the liquidation process. JV partners are aligned with significant skin in the game via equity ownership
2. Longer liquidation period generates significant interest proceeds: The $33.2bn portfolio of loans accrues interest at ~4-4.5% annually, generating significant proceeds to the estate. Assuming an orderly winddown of these assets at close to par value, each additional year the receivership remains results in $1.4bn of incremental distributable value to the estate in the form of interest (assuming all loans remain outstanding)
3. Performing underlying loans: The portfolio is weighted toward multifamily assets and market checks suggest the portfolio is close to 100.0% performing. This indicates the loan portfolio will recover close to par value assuming the JV partner hold to maturity/hold close to maturity. Bank-underwritten performing loans with ~55.0% LTVs typically do not incur meaningful losses.
4. Improving rate environment: the initial marks from the JV transactions occurred at a time when interest rates were at their peak. They have subsequently declined ~100bps. Given these loans are largely fixed rate, the rate-based MTM has decline and if rates continue to decline, may result in a quicker disposition of the receivership’s assets (and at attractive valuations)

The highly asymmetric return profile suggests a position across all the securities but with a weighting toward the preferreds.

Summary

SBNY collapsed in March 2023 after a run on crypto-related deposits and is currently in FDIC receivership. The FDIC (now infamously) sold a large portion of SBNY’s assets to Flagstar (NYCB), which was followed by the subsequent sale of capital call and other loans to PNC and Goldman, leaving behind $33.2bn of CRE loans.

Instead of pursuing a fire sale of the remaining assets, and in keeping with the FDIC’s least cost mandate, the FDIC receivership is pursuing a value-maximizing joint-venture liquidation of these remaining assets. Going back to the GFC, the FDIC successfully utilized joint-venture structures, where the receivership sells a minority interest in the underlying loans to one or more private sector participants, who then workout the residual assets over time to maximize recoveries. As only a minority interest in the underlying loan pools is sold, the FDIC retains a majority of the equity and thus benefits from ultimate recoveries to the receivership (a history of these transactions can be found here: https://www.fdic.gov/buying/historical/structured/index.html).

By working with an economically-motivated private sector participants with skin in the game (in the case of SBNY, Blackstone, Related, Santander), the liquidation and resolution of the loan pools can take place over a long period of time and with a business plan / asset management strategy formulated for each asset. This means two things:

1. A longer disposition periods accrues more interest income to the receivership from performing loans
2. JV partner asset management expertise results in a loan disposition strategy that maximizes ultimate recoveries. Based on precedent scenarios, we believe the JVs are set up with ~7 years of term for assets that such flexibility

In short, the FDIC JV structure creates significant alignment for maximum proceeds from the underlying loans.

So, what’s the deal with the remaining $33.2bn of loans? The SBNY loans (that we believe are almost entirely performing) were split into 4 JVs, with the receivership retaining ownership in 3 and selling 100% of the fourth, leaving $27.7bn of loans left to sell today:

1. JV #1: Axos Bank. This JV was entirely commercial real estate (no multi) and the receivership sold the entire book of loans to Axos Bank for $790mm.
2. JV #2: Blackstone. This is a mix of NYC commercial real estate and market-rate multifamily (~1/3 multi, 1/3 office, 1/3 retail) with an aggregate UPB of $16.8bn. The receivership sold a 20% stake in the JV to Blackstone and CPPIB at 71.2c on the dollar.
3. JV #3: Related and CPC: Entirely rent-regulated NYC multi-family, thought to be average in quality, with a UPB of $5.9bn. FDIC sold a 5.0% interest to Related at 64.5c. Notably, there are press reports regarding multiple bids as high as 85c for this pool from Rithm and Brookfield.
4. JV #4: Santander: Entirely rent-regulated NYC multi-family and thought to be of variable quality (some good, some less so), with a UPB of $9.3bn. Sold a 20.0% share to Santander at 59.5c.

These portfolios are largely performing loans. Recent commentary from NYCB and others has indicated that even among rent stabilized assets, almost all assets in similar portfolios remain current.

What about liabilities? At 9/30 (before GS and PNC dispositions), the FDIC’s claim was approximately $60.4bn. Pro forma for minority interest sales and the GS and PNC dispositions, the FDIC’s claim totals $22.9bn vs. $27.7bn of CRE loan par-value (reconciliation below).

• As noted above, the residual assets accrue interest. However, so too does the FDIC’s residual admin and deposit claim ($22.9bn) and at a rate called the post-insolvency interest accrual which is close to short-term rates (i.e., >5.0% today). This is an important part of any waterfall but goes away as loan proceeds are used to pay it down
• After the FDIC has been paid, there is a standard waterfall with the unsecured bonds, then preferred then common. Importantly, there are no GUCs here
  • SBNY bonds also accrue interest at the post-insolvency interest accrual rate. The preferred does not

A few other important contextual points:

• SBNY did not have a bank holding company and therefore there is no bankruptcy; instead, the FDIC is the receiver and responsible for the distribution of proceeds through the waterfall. This is a positive as the “estate” therefore does not incur exorbitant legal / advisor expenses
• Blackstone took $6bn of back-leverage from the FDIC. This is an asset of the receivership and thus any interest paid on it accrues to the receivership. Based on precedent scenarios, there are likely structural features to this like a cash sweep (essentially making the FDIC receivership senior to BX’s equity on the first $6bn of proceeds – this is a positive)

Waterfall

The waterfall output below shows anticipated recoveries to the various securities and is modelled on a per-JV basis assuming a liquidation cadence as below:

• Year 1: 12.5%
• Year 2: 12.5%
• Year 3: 25.0%
• Year 4: 25.0%
• Year 5: 10.0%
• Year 6: 7.5%
• Year 7: 7.5%

The ultimate cadence of the liquidation is TBD, but in general, as part of a value maximizing sale, is likely to take a number of years. As long as the underlying loans recover >87.5c, there is a material recovery to the preferred equity, and >90c starts to see real returns to the common equity.

The ultimate question here is what do the underlying loans recover. If assessed from a credit perspective only, these loans will ultimately recover in the very high 90s given: (1) credit profile typical for bank underwriting, i.e., lower LTV, positive DSCR; (2) the portfolio is comprised almost entirely of performing loans; and (3) relatively limited office exposure.

The question then becomes will the JV partners dispose of assets at a discount (therefore capturing rate mark-to-market) in order to get their money back quicker à while this is impossible to know, the JVs are set up specifically to enable loans to mature and to elongate the disposition process, so I would be surprised if loans were sold in bulk at discounts where they otherwise would likely recover par (the JVs also likely have structural features preventing bulk sales at big discounts as the FDIC doesn’t want to lose money here either). The  JVs maximize their financial gain by maximizing the recoveries, but also benefit from an asset management fee stream paid as a % of UPB. Thus, running a low to mid-90s ultimate recovery on the loans feels like the right place to be.

While there are real questions regarding credit on rent regulated multi-family, especially since the 2019 rent regulation changes, the below math (put together w/r/t NYCB) shows how even at current cost of funds, rent regulated assets likely have DSCRs >1.0x, indicating that par recoveries are likely.

Risks and Mitigants

Catalyst

Catalysts

Primary catalysts here are incremental loan sales and the 12/31 balance sheet disclosure.

It has been reported by Bloomberg that a $2bn portfolio of the Blackstone multi-loans is currently for sale. This portfolio market-rate multifamily, which has performed well in NYC, and therefore will likely trade at a favorable price.