Troubles at Julius Baer Hint at Challenges for Banks’ Commercial Real Estate Exposures

On 20 November 2023, the Swiss private bank, Julius Baer (not rated by DBRS Morningstar), booked provisions of CHF 70 million for the first ten months of 2023 to cover risks on one single borrower in its private debt loan book. Further to negative media coverage and possible links between Julius Baer and the troubled Austrian real estate group, Signa that has now filed for insolvency, the bank disclosed it has a total of CHF 606 million exposure to one client (three loans to different entities within a European conglomerate), collateralized by commercial real estate and luxury retail. This represents approximately about 18% of the bank’s CET1 capital at end-June 2023 according to our estimates.

A large concentration to a troubled real estate borrower raises concerns over single borrower concentration risk management, and also highlights the risks for banks more broadly as highly leveraged corporates struggle with higher debt costs in a challenging economic environment. Separately we also note that the ECB has recently conducted an exercise to examine the commercial real estate sector concluding European banks need to ensure that their provisioning practices and capital are appropriate in a context exacerbating vulnerabilities.

Julius Baer’s capital levels appear to be adequate to absorb further losses. Based on data as of end-June 2023, we estimate that a hypothetical loss of CHF 606 million (the full amount without considering guarantees and collateral) would represent 280 bps of Julius Baer’s CET1 ratio of 15.5%, based on risk weighted assets of CHF 21,431 million at end-June 2023.

However, we see the recent significant fall in Julius Baer’s share price as a reminder of the rising impact of technology and social media on stakeholder behavior. Meanwhile, the limited level of disclosure makes it hard to assess the full picture for the bank at this stage. Any kind of deposit outflow experienced by Julius Baer would be negative for the bank’s credit profile.

In order to try to reset confidence levels, Philipp Rickenbacher, CEO of Julius Baer, communicated, in a press release published on Monday the 27th of November 2023, that the dividend policy is being maintained (at around 50% payout) among other updates. Absent strategic opportunities, the bank said that if its CET1 ratio was substantially above approximately 14% at end-2023, they would distribute excess CET1 capital though a share buy-back programme. The share price nonetheless deteriorated further the following day, somewhat stabilized today, but remaining at its lowest level since the beginning of the year.

“We continue to closely monitor sectors that have come under stress as a result of more uncertain economic times, higher for longer interest rates, tightening in lending conditions, weaker demand, higher operating costs, and in particular the commercial real estate sector.” said Vitaline Yeterian, Senior Vice President, Global Financial Institutions at DBRS Morningstar.