The economic implications of coronavirus are expected to be widespread and are already causing some borrowers to be concerned about their ability to make loan payments. Many of our bank customers have used the ARC program to fix rates for borrowers while retaining a variable rate. Some of these borrowers in profoundly affected sectors, such as restaurants, hotels, and theaters, are now approaching the lending banks to discuss loan payment relief.
The Fed did more than cut rates on Sunday; they pumped a massive amount of liquidity in the system, sending a signal to banks to level up. Far behind the health of employees and customers in the COVID-19 pandemic, comes the economic impact. Unlike the recession of 2008, where the economic impact came over many months, this pandemic impacted businesses in weeks providing much less time to prepare and adjust. The result is likely to be bad for the economy and bad for banks. If your bank is treating this as businesses as usual, then you are putting your survival at risk.
There is now little doubt that the coronavirus will spread globally and will cause more supply and demand shocks in the market. While economic activity will slow, the amount and duration of the slowdown are big unknowns. Community banks may not have exposure to Chinese markets and may not have significant exposure to the energy sector.
There has been substantial research on how prepayment speeds of residential mortgages affect the profitability of individual loans and portfolios. Because of the homogenous nature of residential mortgages, many firms have developed highly predictive models to calculate prepayment speeds based on past behavior, portfolio makeup, and macroeconomic variables. However, very little research is available on prepayment speeds of commercial mortgages – this is understandable because of the uniqueness of each commercial loan. Even sophisticated loan risk-adjusted return on capital (RAROC) models
We have written numerous blogs about why banks should reconsider the risk-for-yield business model when it comes to credit or interest rate risk. The return on equity (ROE) in risk-for-yield businesses is low, and the business outcomes during downturns are adverse. Instead, banks should construct an advisory business where taking risk may be just one element in delivering a customer-centric solution.
In our last blog, we reviewed ZIRP (zero interest rate policy) strategies deployed by various central banks. We discussed how ZIRP strategies had been deemed by many economists to be ineffective over the long-term to stimulate economic growth and stoke inflation. We considered forecasts by economists, the forward interest rate market, and FOMC policy member’s future rate path expectations - all point to a low probability of decreasing interest rates. However, one loud voice has been a champion of lowering rates to zero or even negative – the President of the United States.
We are working with numerous community bankers to develop strategies for instituting floors on commercial loans. The idea of protecting floating or adjustable rate assets is not new to community bankers, but the current interest in this concept is spurred by specific and unusual communications and market developments that are worth analyzing.
We work on thousands of lending transactions every year with hundreds of community banks across the country. We participate and help structure financing on commercial real estate, C&I and Ag properties ranging in size from a few hundred thousand to over $100mm, and we collaborate with community bank lenders and underwriters that span the whole gamut of experience. We witness the good, the bad, the ugly, and occasionally the very bizarre in bank marketing, under
There are many reasons why some customers are more debt-averse than others. Research has shown that millennials are particularly reluctant to take on debt and are also teaching their kids, Gen Z, to avoid borrowing. However, lenders need to understand how to position their loan products and provide advice for when taking a loan makes good sense for the customer.
Much has been written about the merits of community banks developing banking expertise around specific verticals. We recently worked with a bank that won the banking mandate for a family-run funeral home. At first we were surprised that the term loan was 93% LTV. But when we looked at the entire underwriting package and the borrower’s financials (showing 3.2X DSCR) we recognized the importance of understanding industry specifics and how the funeral industry might be a perfect fit for many community banks.
The Merits of Specializing