Regulators Who Know Loans Better Than Lenders
The Federal Reserve, the Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency recently released their 2014 report card on leveraged lending by U.S. banks. Not surprisingly, federal regulators believe they can tell a good loan from a bad loan better than the institutional loan market populated by the world's most sophisticated investors.</br></br>From the report's executive summary: "In many cases, examiners questioned the borrower capacity to repay newly underwritten loans if economic conditions deteriorated or if interest rates rose to historical norms." Henceforth, the "frequency of reviews" will increase to "ensure risks are well understood and well controlled."</br></br>Regulated banks are being told in no uncertain terms to stop arranging loans for the more risky, more leveraged borrowers, even though those loans are the most profitable and are quickly sold to investors -- typically hedge funds, mutual funds and publicly owned vehicles like business development companies -- not held by the banks, and so do not utilize FDIC insured deposits. Yet despite the healthy investor appetite, the federal banking regulators want the banks to rein in these profitable loans.</br></br>Why are the regulators doing this? It can't be because of "systemic risk," "too big to fail" or any of the other catchphrase risks touted by those looking to justify punishing big banks for the alleged sins of the past.</br></br>The regulators made it clear in their report that they want the banks to stop arranging these loans even if there is zero risk the banks will end up holding the loans. In essence, the regulators are making the banks the gatekeepers for leverage in corporate America.