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As Banks Loosen Underwriting, Credit Risk Rises

Examiners find U.S. banks reducing collateral requirements and loosening covenants on business loans. Particularly the highly leveraged kind.
Vincent RyanJanuary 30, 2014

Reflecting an increased appetite for risk, U.S. banks continued to ease underwriting standards in 2013, especially in asset-based, leveraged and large-corporate loans, a survey of bank examiners released Thursday found. Partly as a result, examiners expect the credit risk of some business loan categories to rise in 2014.

The report, by the Office of the Comptroller of the Currency, found that there was a continued net easing of loan underwriting standards, with commercial underwriting loosening at 28 percent of the banks examined, up from 14 percent in 2012.  Large banks reported the highest share of eased underwriting standards across loan categories, the OCC said. (The 2013 survey includes 86 of the largest U.S. national banks and federal savings associations with assets of $3 billion or more.)

“Examiners reported that banks that eased standards generally did so in response to changes in economic outlook, an increasingly competitive environment, plentiful market liquidity and changes in risk appetite including a desire for growth,” the OCC says in the report. Banks eased commercial loan standards mostly by reducing collateral requirements and loosening covenants.

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In leveraged loans, 53 percent of the banks originating them eased underwriting standards and 43 percent left standards unchanged, the third straight year examiners reported significant easing. Partly as a result, examiners reported, the level of credit risk in leveraged-loan portfolios rose at 40 percent of banks, and they project that the credit risk in leveraged loans will increase or remain unchanged this year at 93 percent of the banks surveyed.

“Examiners will monitor this expected trend closely, as such pressures could result in further easing of underwriting standards, lower pricing and fewer or no covenants,” according to the OCC. The OCC is particularly concerned about banks easing standards to improve their margins and win business from competitors, and are trying to ensure that financial institutions apply underwriting standards prudently and consistently.

Also reflecting moderately increasing levels of credit risk in banks’ portfolios were international loans. Commercial real estate, large corporate and commercial leases reflected net decreasing levels of credit risk.

In small-business lending, only 21 percent of banks eased standards, but that number was the highest since 2006. The level of credit risk remained stable, examiners found. But they forecast increasing credit risk in small business loans at 32 percent of the banks that originate them.

The 2013 survey covered the 18-month period ending June 30, 2013 and covered loans totaling $4.5 trillion, representing about 87 percent of total loans in the national bank and federal savings association system, the OCC says.

Source: OCC: OCC Survey Shows Banks’ Underwriting Standards Continuing to Ease

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