To Their Credit GR Banks Say Theyre Not Tightening Loan Standards
The Fed’s October survey showed the percentage of U.S. banks that reported tightening standards on commercial and industrial loans to large and middle-market firms rose to 51 percent in October, up from 40 percent reported in the Fed’s August survey.
Similarly, 40 percent of domestic banks reported tighter lending standards on loans to small firms.
All survey respondents pointed to either a less favorable or more uncertain economic outlook as part of the reason for changing their commercial lending policies. In fact, 63 percent of domestic banks said the economic outlook was a “very important” reason, compared to 37 percent in August.
Most domestic banks in the Fed study indicated they had downgraded the dollar volume of business loans, particularly loans to firms in the commercial airline and hospitality industries.
Nearly half the U.S. banks surveyed had downgraded less than 5 percent of their business loans in the past three months, while 28 percent had downgraded from 6 percent to 10 percent and 21 percent had downgraded between 11 percent and 30 percent of their commercial loan portfolio.
Besides considerable downgrading in loans to airlines and non-defense aerospace firms, the Fed study shows downgrading was “pervasive” among loans to high tech firms, auto manufacturers and distributors, and companies in the consumer cyclical industries.
Energy and defense companies were the only ones to escape downgrading during the three- month period.
“Downgrading doesn’t mean those companies are totally not paying their loans or that they won’t pay when they can; it means their ability to pay is now hampered in some way and they’re more of a threat possibly to default,” said Bruce Vandegrift, senior vice president of National City Bancorp’s Private Client Group.
If a company extends the period of time that it cycles its payments or misses a payment or two, suddenly it’s not the same credit risk it was when the bank first loaned it money, he said. So for a variety of reasons, its credit worthiness may be downgraded.
Furthermore, banks sometimes refocus or change strategy and, in doing so, may decide not to lend in a particular industry, Vandegrift noted. That frequently happens when there’s a change of control, such as in a merger, and new management decides not to renew maturing loans among weaker clients.
He also underscored the regulated nature of the industry, which restricts banks “from going out and just making any old kind of loan.”
“We want new clients and we don’t have too many issues,” Vandegrift added. “One of the hallmarks of National City has long been credit quality; we try to get really good clients in the first place and then when things get tough, we can stand by them and not have to worry about our position or theirs.”
He said there’s currently kind of an oxymoron in terms of banking and financial policy in the country, because the Fed is loosening as fast as it can to spur the economy but it won’t do any good to spur the economy if lenders are essentially concerned about the ability of borrowers to repay.
The Fed’s lowering of the interest rate 10 times this year has effectively lowered the yield that banks receive on loans. And when there is a significant lowering of interest rates, there’s also a devaluation of deposits, said James Dunlap, president of Huntington National Bank-Michigan.
“We don’t have as much spread on those anymore because we can’t do as much with them. The only way we have to make money is putting that money back out on the street in an earning asset, which is a loan.
“Actually, in a declining rate environment, there’s an over-motivation to go out and find good, high quality credit opportunities to extend that.”
In a weak economy, a company can start to generate lower profits, and possibly losses, while its cash needs remain the same.
Many large creditors were hard hit with credit quality deterioration during the early days of the current recession. And even though a large Fortune 500 company may not be any bigger a credit risk than it was before the recession hit, it’s now having to stretch cash further and pay vendors slower, Dunlap pointed out.
He said Huntington hasn’t changed its commercial lending policies and has no plans to put any new restrictions in place.
“One of the observations I had of Grand Rapids early on is that there’s a lot of structure that the competitive market itself determines versus what financial institutions determine,” Dunlap said. “We have the willingness to go in and extend — on more lenient terms — against very good quality receivables and give them access to that cash at the time they need it the most. Banks have opportunities to do that as long as they are very selective and don’t stretch it into non-credit quality type issues.”
Fifth Third Bank hasn’t tightened its standards either, nor is it shying away from lending to specific industries, according to Larry Magnesen, marketing director. But given today’s challenging economy, companies that have experienced deteriorating financials over the last year may find themselves a little less credit worthy, he said.
“If companies are having a little more difficulty getting credit, it’s not always necessarily that the credit standards have been changed; it’s simply that they might be coming into the situation with much worse financials than they’ve had in the past.
“We’re continuing to look at each borrower individually and at what their situation is, and making a good credit determination based on the individual circumstances of that company.”
Michael Price, president and chief operating officer of Mercantile Bank Corp., said Mercantile has always had a very conservative credit culture and hasn’t changed its standards since its founding in 1997.
There may be an industry or two right now that Mercantile will probably avoid, he said. The tool and die industry, for instance, is really flat on its back.
“In some respects that could be looked at as a credit-tightening procedure,” Price noted. “But other than that, we are keeping our standards, and policies and procedures pretty much consistent all the way across the board. We think it really helps us in the marketplace because people look to us as a bank they can count on to be there when times are tough as well as when times are good.”
In July, Bank One Corp. acknowledged it was halting loans to large corporate clients that don’t use the bank for ancillary services, but the company said the new restrictions wouldn’t affect Michigan’s huge middle market because those clients are more apt to buy financial services beyond loans. Bank One began initiating the policy change more than a year ago before the economy worsened. It was part of Chairman and CEO Jamie Dimon’s reshaping plan, said Mary Kay Bean, a corporate spokesperson.
David Sayers, senior business counselor of Michigan Small Business Development Center in Grand Rapids, said he gets calls from small businesses that are forced to go to a number of banks before they have success, or they call him in exasperation because they have no success. One potential borrower, he added, had to make a pitch to 10 banks before he was able to secure a loan.
“It’s hard to get loans for startups to begin with,” Sayers said. “Because interest rates have dropped so rapidly, (the) banks’ spread is narrowing, and that will cause them to be more selective.”
But the fact that many U.S. banks are reporting tightening their standards shouldn’t be any surprise because that happens every single time the economy slows, said Joseph Stieven, director of financial institution research for Stifel, Nicolaus & Co. Inc. and a former Federal Reserve employee.
“It’s sort of like making news out of the fact that when winter comes you have to wear a winter coat,” Stieven remarked. “In an economic slowdown or recession banks have to be a little more conservative; they have to be a little tougher.
Stieven, who has been following banks for 20 years, says the banking environment is better today than ever before and that in this “exceptionally competitive” environment any good company with good credit can get funding.
“Banks are there to help provide capital and they have to do it in a prudent manner, because that’s how they’ve been chartered. A bank is not a rich uncle who gives you money and doesn’t expect you to repay. If banks lend money they expect to get repaid back with interest. That’s what they’re supposed to do.”