LONDON, July 9 (LPC) - Banks’ appetite for syndicated loans could reduce substantially as lenders address the increase in their risk-weighted assets as a result of the impact of Covid-19, bankers said.
Lenders’ liquidity and the quality of the assets they are required to hold against the capital they lend are under scrutiny. As borrowers start to publish half-year earnings, banks fear that falls in equity prices and downgrades will push up their RWAs and start to constrain their ability to lend, as they are forced to increase the capital they hold against those assets.
“It will be horrible. There will be a massive wave of ratings downgrades, This will have a mechanical impact on the RWAs we have on our books and will become a major restraint on our ability to lend,” said one banker. “The availability of liquidity is something central banks can fix, but for RWAs there is no fix.”
Loan bankers are scrutinising each credit very carefully.
“Everyone has models and scenarios about how things might pan out but there are so many permutations. We simply don’t know what’s going to happen; and that’s what is really frightening people,” a second banker said.
Management consultants McKinsey identified the issue in a report published in May, saying that RWAs would rise at banks following the fallout of the pandemic, which could cause capitalisation issues at banks pushing CET1 ratios to as low as 8% in some cases.
“Individual banks that are disproportionately affected, or that are perceived to have capitalisation issues, could require recovery actions and will find raising capital both difficult and highly dilutive,” it said.
The report points out that banks are suspending dividends and controlling costs to try and mitigate the fallout and regulators have delayed the implementation of stricter capital rules or are providing more flexibility on current arrangements so banks can focus on critical services in the real economy.
“Regulators have a huge part to play in this. They have to react in the right way and make sure banking isn’t overburdened. They must balance that with preserving the integrity of the banking system,” the second banker said.
Banks have also begun to sell assets in an attempt to reduce their RWAs, but there is uncertainty over how effective this will be.
“You can try to mitigate the situation by selling assets in secondary or securitising them, but you can’t do that to the magnitude of assets this is about to happen to,” the first banker said. “You also don’t want to sell your relationships.”
It is also difficult for banks to accurately forecast the depth of the problem.
“The issue here is lack of visibility on the real magnitude of the problem. This will not be known until full-year results are published,” a third banker said.
McKinsey says this leaves banks with little room for manoeuvre, as regulators and governments still expect them to actively support the economy through state-backed lending programmes, which it says could leave banks needing substantial government support.
Some bankers, however, are more measured on how they view the overall impact of the pandemic on RWAs.
“Most if not all banks will be affected which creates a less favourable lending environment, but for some it may not be a significant impact. It does depend who you have lent too. Some sectors and types of businesses will be more affected than others,” a fourth banker said.
Loan market liquidity has been helped by substantial state-backed support for beleaguered companies, while many corporates have begun to repay precautionary drawings made on existing revolving credit facilities.
The strength of the bond market will also help liquidity with some companies already looking to replace emergency bridge loans taken out during the crisis.
Last week, for example, Fiat Chrysler issued €3.5bn of bonds to take out a €3.5bn bridge loan put in place in March. (Editing by Christopher Mangham)