To hear the heads of Wall Street’s largest financial institutions speak, the worst of times are behind us. But a new wave of pressure seems mounting as corporate borrowers get squeezed by tightening credit and a slowing economy. High yield bond defaults are up and going higher as companies find lenders unwilling to refinance risky loans (non-investment grade lending is down 70% this year). And now companies have begun drawing down on their revolving lines of credit, sucking even more capital away from Wall Street, the New York Times is reporting.
Those of you not involved in corporate finance might not appreciate how much banks hate when borrowers draw down on revolving lines of credit. Typically a corporate borrower will have a revolver built into its larger credit facility. But unlike bond issuances and syndicated term loans, banks cannot easily hand the credit risk and capital requirements onto other investors. In short, when borrowers draw down revolvers that money comes out of Wall Street’s coffers.
Banks are already under tremendous balance sheet pressure following the $300 billion write-downs and credit losses over the past year, and the threat of corporations drawing down their revolvers could exacerbate the situation. The New York Times, in a somewhat panicky tone, notes that in a worst case scenario of massive revolver draws, banks could be forced to sell assets or raise money to cover the loans.
The banks are downplaying the risk, of course. “Even in the most volatile markets, including last summer, we have seen very few companies draw down their revolvers,” Chad Leat, chairman of the alternative asset group at Citigroup, tells the Times. “Occasions when it did happen have been unique.”
We find this completely reassuring. Banks, especially Citigroup, have proven so effective at anticipating crises in the past year that we wouldn’t even dream of doubting Chad.
Banks Fear Increased Demand for Corporate Emergency Loans [New York Times]
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- Use the Bloomberg command
NH BLG_DEALBREAKER <GO>
to access Dealbreaker
Tandem Global Partners LLC is down 20% YTD…..
tough to pawn the revolvers off on hedge funds due to tax issues. This will be much tougher for the banks to shed than the buyout loans.
Bank’s don’t necessarily “hate it” when companies draw down their revolvers. For an investment grade company, Banks typically receive a slim margin on the undrawn amount (Around Libor+10, up to L+30 for leveraged loans). These lines are not reserved for emergency use, but rather for miscellaneous corporate purposes or for funding acquisitions alongside a term loan. Even if these lines are undrawn, banks need to reserve a portion of their tier 1 capital for these lines, and it is an expensive proposition (opportunity cost), therefore many of these deals are for “relationship” purposes. However, it will not cause a scramble for banks to raise capital backing these loans.
Examples of problematic draw downs of the revolver, such as CIT group earlier last month, and LTCM’s line from Chase bank, are still few and far between. The risks these represented had more to do with the borrower’s solvency than they had to do with the lender’s ability to finance these loans.
Chad Leat – ex head of Global Loans (IG and Non-IG) group at Citi and as such the guy doing all the dancing. He’s definitely the guy to trust.
And 9.38 – you’ve got half a clue. But only a half. Consider a bank’s funding cost at the moment…
What more can we expect from this struggling economic situation? Job losses continue to increase since the beginning of the recession. Unemployment rates grow in many parts of the world especially in the USA since the recession begun. Unemployment isn’t pleasant to think about, and is very unpleasant to endure. Some people wonder just where unemployment is the worst. Well, I can tell you which cities that unemployment is the highest in the U.S. El Centro, in southern California, has 25.1% unemployment. (To be fair, most work there is seasonal agriculture.) Merced, California, is just over 20%. Yuba City, also California, sits at 19.5%. The only non California city hit with high joblessness is Elkhart-Goshen, Indiana, with 18.8%of people living off credit cards during this recession. California’s stats are inflated due to seasonal unemployment, as it revolves around farming. Still, that’s a lot of people that can’t get payday loans due to unemployment.
http://personalmoneystore.com/moneyblog/2009/04/30/cities-highest-unemployment-rate/
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