KBRA Affirms Ratings for HomeStreet, Inc.

Following the announcement of the termination of the proposed merger agreement with FirstSun Capital Bancorp (NASDAQ: FSUN) ("FirstSun") on November 19, 2024, KBRA affirms the senior unsecured debt rating of BBB-, the subordinated debt rating of BB+, and the short-term debt rating of K3 for Seattle, Washington-based HomeStreet, Inc. (NASDAQ: HMST) ("HomeStreet" or "the company"). In addition, KBRA affirms the deposit and senior unsecured debt ratings of BBB, the subordinated debt rating of BBB-, and the short-term deposit and debt ratings of K3 for its main subsidiary, HomeStreet Bank. The Watch Developing status is resolved, and the Outlook for all long-term ratings is Negative.

Key Credit Considerations

Following the termination of the proposed merger, HomeStreet will now operate independently for the foreseeable future. Management plans to proceed with its strategic initiative to stabilize the institution through the sale of ~$800 million in multifamily loans, expected to close by year-end 2024. This sale is anticipated to return the company to profitability in the first half of 2025 following four consecutive quarters of net losses from 4Q23 to 3Q24. HomeStreet's recent challenges stem primarily from rapid balance sheet growth in the years leading up to the Federal Reserve’s interest rate hikes. This growth, driven largely by multifamily lending funded through wholesale borrowings, exacerbated its liability-sensitive balance sheet. As interest rates rose, the institution experienced significant NIM compression (1.34% during 3Q24). Additionally, the strong growth put considerable pressure on the capital position. The liquidity generated from the loan sale is expected to de-leverage the balance sheet by paying down wholesale borrowings. However, despite the shrinkage in the balance sheet, capital ratios—which are already low, with a TCE ratio of 5.8% and a CET1 ratio of 9.5% as of 3Q24—are likely to decline further, given that the loans are being sold between 91%-95% of par value based on management's public guidance. Given the rise in interest rates since the end of 3Q24 and the longer duration of the multifamily loans being sold, there is a risk that the realized sale prices could fall at or below the lower end of this range. Nonetheless, management remains optimistic that earnings and capital levels will improve by year-end 2025, supported by the loan sale and the recent and anticipated reductions in the Federal Funds target rate.

The Negative Outlook reflects ongoing uncertainties, particularly around execution risks associated with the loan sale. Profitability metrics will likely remain constrained after the loan sale, providing minimal capacity to absorb a potential rise in credit costs. Notably, HomeStreet has been in a cumulative reserve release position since the start of 2021. However, credit risk is viewed as comparatively lower than similarly rated peers, as the loan portfolio is heavily concentrated in multifamily loans, which have historically demonstrated strong performance with no credit losses since the company began originating them decades ago. Additionally, HomeStreet’s credit quality remains strong, with an NPA ratio of 0.56% as of 3Q24 and minimal NCO activity year-to-date. Capital ratios are also expected to remain at the lower end of the rating category, and opportunities to bolster capital outside of a dilutive common equity raise appear somewhat limited. Despite a higher loan-to-deposit ratio (115% as of 3Q24), which will be meaningfully reduced following the loan sale, we believe that the liquidity position is adequate, including on-balance sheet liquidity representing 15% of assets and contingent funding covering 80% of total deposits. Moreover, the deposit base has demonstrated durability and loyalty throughout this period of uncertainty, which is, in part, due to the granularity, including uninsured deposits representing just 8% of total deposits.

Rating Sensitivities

Negative rating actions could result if the loan sale is delayed or completed at a price significantly lower than the expected range provided by management, leading to further deterioration in capital ratios. Additionally, unexpected credit issues over the next year could also result in a downgrade. Failure to achieve its profitability and capital targets by year-end 2025 may similarly prompt negative action. Conversely, a return to a Stable Outlook would require meaningful improvements in earnings and capital levels while preserving strong credit quality metrics.

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