| NEW YORK
NEW YORK Nov 22 Banks are poring over US
leveraged loan portfolios to assess whether they will be able to
lend as much to risky lower-rated companies and private equity
buyouts after attracting regulators' ire, bankers and lawyers
US regulators are keeping closer tabs on how banks are
managing the high-risk lending that triggered the financial
crisis, including leveraged loans financing acquisitions and
This could force banks to lend less and trigger a slowdown
in the $1 trillion-a-year US leveraged loan market, which is
experiencing frothy and aggressive conditions last seen at the
peak of the market in 2007.
"The result is that they (banks) are going to be able to
lend less money," said Brett Barragate, co-head of the banking
and finance practice at Jones Day.
Banks are categorising the loans on their books to determine
how each will be treated under the new guidelines and assess the
consequences for future lending, sources said.
US banking regulators including the Federal Reserve, Office
of the Comptroller of the Currency and Federal Deposit Insurance
Corp sent an advisory in March outlining target underwriting
criteria, including leverage ratios and a timeline for debt
This was followed with letters to arranging banks in the
fall and regulators have repeatedly warned that underwriting
standards are weaker.
The US leveraged loan market, which has been helping
companies to cut borrowing costs by repricing and refinancing
existing loans, is on heightened alert that banks could be able
to lend less, which could curb already weak economic activity.
"I've heard from two banks in the last 24 hours that it
could start to have an impact on their business on the arranging
side," a senior London-based banker said.
The spotlight sharpened after federal agencies said in October
that leveraged loans accounted for most of the "criticised"
assets in bank and non-bank portfolios.
The credit quality of banks' large syndicated loan
commitments was little changed from last year but examiners
criticised 42 percent of the leveraged loan portfolio,
regulators said in a 2013 Shared National Credits (SNC) annual
Under March's leveraged lending guidance, loans may be
criticised for repayment risk if a company fails to show the
ability to amortise all senior debt or half of total debt from
free cash flow within five to seven years.
Top on the hit list of regulatory concerns are: excessive
leverage, inability to amortise debt over a reasonable period
and a lack of meaningful financial covenants.
The volume of issuer-friendly covenant-lite loans hit a
record $221 billion this year, with another $12 billion in the
pipeline. This far exceeds $84 billion of covenant lite loans in
2012 and the previous record of $108 billion in 2007, Thomson
Reuters LPC data shows.
Regulators expressed concern about the quality of
underwriting in leveraged loans, particularly higher leverage
and loose covenants in the recent letters to banks.
"They have asked what procedures banks have in place. It's
impossible to see how this will play out." a senior US leveraged
finance banker said.
In an October report on "shadow banking", the New York Fed
noted that entities not subject to traditional bank regulation
are stepping up lending to low-rated companies at the same time
that individuals are buying the riskier loans.
Retail investors have poured money into loan mutual funds
for 75 straight weeks, seeking higher-yielding assets as Fed
policy keeps interest rates at rock-bottom levels.
Most leveraged loans are however bought by Collateralised
Loan Obligation (CLO) funds and other institutional investors.
And recovery rates on leveraged loans are high relative to
bonds, while net new issuance is relatively flat with pre-crisis
levels, the New York Fed noted.
"It's important that there is a distinction made between the
moms and pops that were sold dodgy real estate loans, and who we
are selling to in the leveraged finance market - sophisticated
asset managers," another senior leverage finance banker said.
(Additional reporting by Tessa Walsh in London and Natalie
Harrison in New York.)
(Editing by Tessa Walsh)