BOSTON (Reuters) – There was a time when robust growth in U.S. commercial loans was seen as a good sign for the economy, but this year a double-digit surge is being seen as a red flag.
U.S. banks reported $1.53 trillion in commercial and industrial loans in the first quarter, a 12 percent year-over-year gain.
Bankers and analysts say this big gain in C&I lending looks more like an early asset bubble than an economic breakout. The banks reported double-digit gains in 2011 and 2012, too.
Mid-size companies and publicly traded corporations are not using the loans to grease the skids of the economy for expansion. Instead, they’re mostly getting cheaper credit lines or refinancing the replacement of obsolete factory equipment by dictating easy terms to banks clamoring for their business.
C&I loans, as they’re called in the banking industry, normally provide an important source of working capital for businesses to fund inventory and equipment, for example.
The greater emphasis on this type of lending comes as banks contend with declines in home equity lines and single-family residential lending, according to data from the Federal Deposit Insurance Corp.
“With so much liquidity, banks feel a lot of pressure to make loans,” said Mariner Kemper, chairman of UMB Financial Corp, a Kansas City, Missouri-based bank with $3.2 billion in outstanding C&I loans.
“There’s deterioration in covenant terms and pricing and that’s potentially the kind of behavior that drives a crisis.”
Bank of America Corp reported $209 billion in C&I loans at the end of March for a 24 percent gain from year-ago levels, according to FDIC data. The bank is the No. 1 C&I lender followed by Wells Fargo & Co ($149 billion), JPMorgan Chase & Co Inc ($136 billion) and Citigroup Inc ($134 billion), FDIC data show.
Douglas Bryant, a senior lender for Wells Fargo in New England, calls the C&I lending shift the “return of the silly season.”
“Any well-known company with a credit need is called on by a half a dozen or so banks,” Bryant said. “These companies are offering very aggressive term sheets on price and loan covenants.”
Bryant said banks today are lucky to get one or two strong covenants on a loan. Covenants allow banks to restructure loans if a company fails to meet projections on leverage, cash flow and debt service, for example. But with more leeway on those financial metrics, a company can get deeper into trouble before it breaks a covenant, exposing banks to greater losses.
“A company can deteriorate a significant amount before you get back to the table to restructure the loan,” Bryant said. “We used to get as many as five strong covenants.”
Though delinquency and charge-off rates remain well below historical levels, the surge in C&I loan growth and fewer restrictions worried some top Federal Reserve officials at the April 30-May 1 Federal Open Market Committee meeting, minutes show.
A few Fed policymakers expressed concern that conditions in certain U.S. financial markets were becoming too buoyant, according to meeting minutes. The committee also discussed how a survey of senior lending officers revealed a greater percentage of banks easing standards and reducing spreads on C&I loans to firms of all sizes.
“We expect deterioration from the currently low levels of delinquent and noncurrent C&I loans and reversion to higher historical averages,” analysts at Fitch Ratings said in a recent research note.
Bankers are quick to blame the Fed’s easy money policy, which since 2008 has relied on three rounds of bond-buying and cutting short-term interest rates to near zero to spur economic growth.
The purchases of mostly Treasury and mortgage securities – known as quantitative easing and nicknamed QE1, QE2 and QE3 – have injected trillions of dollars into the financial system.
U.S. companies are taking full advantage. 1-800-Flowers.com Inc in April trumpeted a new $200 million credit line that reduced the top end of its interest rate range by 40 percent to LIBOR-plus 225 basis points. The on-line florist used the new credit line to pay off $18 million on a term loan. A syndicate of banks led by JPMorgan arranged the financing.
“I don’t see an economic breakout,” UMB’s Kemper said. “The broad-based economy is still operating with caution. There’s some good news that makes us all cautiously optimistic, but I’m hesitant to call it a new day.”
(Reporting by Tim McLaughlin- Editing by Richard Valdmanis and James Dalgleish)