Commercial Real Estate Mastery: Episode 47
Lessons Learned From The Savings And Loan Crash
Back in 1986, a combination of a plunge in oil prices, coupled with a change in tax laws, ushered in a recession called the “Texas Savings and Loan Crash”. This economic calamity resulted in over 3,000 bank failures. In this Commercial Real Estate Mastery podcast we’re going to review the lessons learned for every borrower from this crash, which may well apply to the next one.
Episode 47: Lessons Learned From The Savings And Loan Crash Transcript
About 40 years ago, back around 1986, there was a phenomenon called the Texas Savings and Loan crash. And for those who were there, and I was one of them, there was an enormous amount of lessons learned from a moment in which the banking industry was in complete free fall, complete disarray. Let me give you an example of how bad things were back in 1986.
Now, in America recently, we had three banks fail a few years ago. People went berserk. They thought the sky was falling, it was the end of the world, because there were just three banks failing. Back during the Texas Savings and Loan crash, 3,000 banks failed. Things got so bad that every single high-rise office building in downtown Dallas, downtown Houston, they all went into default. They were all foreclosed on.
Back then, my mother was an oil and gas CPA at a big oil company called ARCO, and she was in charge of logging in all of the costs of their own glamorous tower they built in downtown Dallas, and they spent over $100 million building it and furnishing it. It was foreclosed on and then sold on the courthouse steps for $15 million.
And that was in 1986 money. That's about four times those numbers today to inflation adjust it. It was absolute carnage. And yes, the bank that I had my commercial loans with, it failed, and ultimately, my own loans were called by the bank. I was in the same category as basically every other commercial real estate investor back in Texas at that time.
It was a very, very scary period, marked with lots of suicides, lots of people who lost everything, but a lot of lessons learned. So what was learned from all that? How do you make any sense of all the bad times of the '80s and that whole savings and loan crash? Well, the first lesson I learned from back then is that hidden in the fine print of virtually every loan and every bank in America is the ability to call the loan.
When I say call the loan, I mean then basically just that. Say, "Hey, we want you to pay off your loan in full because you are in default." Now, you could be making your payments like clockwork, just as I was, but if you really read the fine print, they're often able to call your loan just if they think there's a change in market conditions.
You really don't have any of the safeguards you think that you have. So every loan could be called in every institution today, yet we don't see them being called. Why is that? Because it only really comes into play when banks start failing. When banks are doing okay, that's how they make money. They make money in the interest on their loans.
So they would never want to kill the golden goose, so they're not going to go to people and say, "Hey, pay off your loan," because they're getting interest off that loan, and that's how banks make money. Where it all goes bad is when the bank is failing, and suddenly they need cash to remain in operation, and then they'll start calling every loan. They don't really care if it's performing or not. They don't care if your loan has been in the bank for 20 years, or two years, or two months.
All they know is they're in trouble, they're struggling, they're going to go under, and they want to bring in as much money as they humanly can. So what do you do when it happens? If someone calls your loan because the bank is failing, then what do you do as the owner of a commercial real estate? Well, what you do is this. You tell them, "Hey, sorry to hear the bank is having trouble, but there's no way I can go out and get a replacement loan fast on this. So here's what I will do. I will keep making my monthly payments as I always have, and if I ever have the opportunity to pay off, I will.
But until that time, all I can do is just keep making the payments." And what did we find? We found in most cases, that worked. It worked for me. I just said, "Well, sorry, I'll just keep making my payments." Never went anywhere, never escalated, just kept making my payments. And what I learned from that is, on the front end, if the bank is trying to call a loan, you want to be as friendly as you humanly can.
Just be as nice as you can. Listen to them. Try and see what you can do to help. Probably don't have anything. Explain to them you've always been a good borrower. You're doing a great job of overseeing the property. You've always made your payments. Your payment's completely current, and you'll keep on doing that. And the reason that often works is the bank is really prowling around for the easy targets.
People who will say, "Yeah, you know what? I have enough money in the bank. I'll go ahead and just come pay you off." So in round one, that's what they're doing. They're simply looking for people who, at the drop of a hat, who have enough cash, have enough capital, to go ahead and pay the bank off And they figure if they hit up every borrower they have, well, something will pop up.
But if being nice doesn't work, if the bank says, "Aha, well, I don't care. I still want my money," then you've got to be mean. Now, what does it mean when I say getting mean with a bank? Getting mean with a bank would basically be revolved around you threatening to take some action. One action which you would always have at your disposal if you felt it necessary would be litigation.
Saying that the bank lied to you when you made the loan. That they told you, "Oh yeah, we'll never call it." That they have no right to call it, you've been making your payments. And we live in America, one of the most legally dysfunctional spots on Earth. We have more lawyers in America than all the other countries combined, and it's reflected in just simply how dysfunctional everything is.
So if you threaten to file a suit, what's it mean? Well, it means the bank will have to put a whole lot of money into legal fees, and there will be an enormous delay. To go to court in America can often take a year or two, and then you have the ability to do appeals, you can probably stack on another couple years beyond that.
Four years is a long time to be in court, stymied. And if you go that route, you might just stop making payments on the loan too, as long as they're trying to call the thing. So the bank is now having to choose between getting the regular payments every month like they're getting, or maybe not only not getting any payments for years, but having to pay out massive amounts in legal fees.
Another thing would be to tell them, "Look, if you're going to try to take this property from me, I'm just going to throw it into bankruptcy." That means you're back in court again. Whether you file a Chapter 7, Chapter 11, whatever you're going to do, once again, it means that the bank is stuck. They've taken that nice performing loan, and now they've thrown themselves into court with the related legal fees and the lack of payments.
So I think the big thing I learned from watching the people who swam from those who sunk was that they understood this concept of being as nice as you can be versus being as mean as you can be. Be as amiable on the front end as possible and as terrifying as you can be on the back end if being nice isn't working. Now, do I see this coming into play again someday? Yes, I actually do.
We've had a very prolonged period of stability when it comes to banking, but at the same time, we know there are lots of forces at bay right now in America that could very well lead us to have more bank failures. One thing that was spotted from the three bank failures of just a year or two ago was the fact that in the modern era, people can do a run on the bank just from their phone.
They can literally electronically transfer the money out of the bank at an incredibly rapid rate. In the olden days, before we had online banking, the only way a bank could fail was people would have to physically go down to the branch to try and withdraw their money. And the bank could shut those doors right at the closing time and buy themselves more time because the line might be around the block and they can't get them all processed in a given day.
But with online banking, it's very possible you will see an acceleration of bank failures at some point in the future. The bottom line is always be a good borrower. Borrow your money, make your payments, but understand there is always this imperceptible percent of risk involved, and maybe if that ever comes up, maybe my words of wisdom here will help. This is Frank Rolfe, the Commercial Real Estate Mastery Podcast. Hope you enjoyed this. Talk to you again soon.
