I was writing earlier about how our local bank branch has experienced so many cash withdrawals (in a relatively small beach town) that the bank has been low on physical currency for several days.
Well, that’s been happening at the corporate level too, with major corporations in several industries drawing down their entire credit lines preemptively. I’ve been trying to find a list somewhere of all the entities that have done so thus far, but I haven’t seen more than anecdotal information. Obviously energy, transportation, and hospitality companies are at the top of the list.
Boeing, the United States’ largest exporter, yanked $13 billion at once from a credit facility provided by a syndicate of banks. And who even knows what this is going to do to Boeing, which was already in a less-than-stable condition before this event.
I can see this happening with more or less any large corporation though, because liquidity in a financial crisis becomes a race, not unlike the idiots buying all the toilet paper. At some point, people who don’t even need toilet paper start buying toilet paper because they don’t want to be stranded after everyone else has panicked.
Front-running a panic is a rational reaction to panic in these situations, because you don’t know when access will be a problem when the nuts break the market for a particular good or service (and cash is a good or service of sorts).
Banks have convened emergency meetings to address a rush of companies drawing on back-up credit lines, new accounting rules that are exacerbating loan losses and disruption in their own offices as lenders grapple with the effects of the coronavirus outbreak. As corporate bond markets grind to a halt, banks’ corporate customers are tapping credit lines — known as revolving credit facilities — to ensure they have enough cash on hand to survive a prolonged downturn in financial markets. They are also enquiring about the availability of short-term bridge financing, so that their boards “can sleep at night”, said one US banking executive. Companies in the oil, airlines, hospitality and healthcare sectors have been most active in requesting drawdowns, said several executives. Lenders’ treasury departments are modelling what happens if the liquidity concerns spread to other industries as well. “We know there is going to be hoarding of liquidity, drawing down on credit lines,” said one top European banker. “We are examining where the stresses might be, do we have enough liquidity on standby if needed? Our treasury is the busiest division at the moment.”
Recent accounting changes are exacerbating perception of the problem:
Meanwhile, banks are facing upheaval from new accounting standards introduced in the US and Europe in the past two years that force earlier recognition of loan losses. “The biggest issue with oil and the virus is the adoption of [current expected credit loss],” said Marty Mosby, banks analyst at Vining Sparks, referring to the new US accounting standard for US banks that was introduced on January 1. The standard requires lenders to take account of likely future losses on a loan, and set aside provisions to deal with them upfront, rather than the previous incurred loss model of only booking provisions when customers actually missed payments. Europe is also working under new rules that will lead to earlier losses. “The bad news [from the accounting changes] is that reported bank earnings should get hurt more short-term than in the past with an economic slowdown,” said Mike Mayo, an analyst at Wells Fargo. He cut earnings estimates for the US banking sector by a fifth for 2020 and 2021 combined. The Association of German Banks has warned that accounting rules could “massively amplify” the looming crisis. Investors have indiscriminately dumped US and European bank shares in the past two weeks, fuelled by fears that the pandemic will cripple supply chains, force workers off their jobs, and hobble industries from airlines to tourism — ultimately leading to loan defaults.
It’s a bigger mess than in previous financial crises, as the people managing these funds aren’t even allowed to be physically at work.
Companies large and small are considering drawing down credit lines with their lenders in order to build an emergency stockpile of cash. Many, including America’s largest exporter, Boeing, have already done so. On Wednesday, Boeing tapped its $13 billion credit facility with a syndicate of banks including JPMorgan, Bank of America, Citigroup and Wells Fargo.
The sheer size of the maneuver led many industry experts to study whether banks can make good on the credit they’ve extended to customers. With stores shuttered and consumer traffic grinding to a standstill, these credit lines may wind up being a lifesaver for many businesses. Independent analysts are confident that banks can handle the demand.
The largest fourteen U.S. banks will have the capacity to pump at least $500 billion of cash into businesses by way of fulfilling corporate credit lines, according to fixed income research firm CreditSights. “We think the sector is ready, willing and able to support a surge in corporate credit demand,” said a team of analysts led by Jesse Rosenthal in a Friday report. At an overall 20% draw on these firms commitment lines, lenders would be able to easily support $493 billion of temporary credit to customers, with JPMorgan leading the bunch at $108 billion and BofA easily handing $95 billion, CreditSights found. “We think U.S. banks retain ample liquidity to meet corporate demand and fund commitments amid the turmoil.”
Confidence in banks’ financial position largely comes from the Fed’s stress tests. In them, banks were examined on their capital and liquidity—and over a dozen other metrics—in the event of a bad recession, deemed an ‘adverse’ scenario, and a calamity, deemed a ‘severely adverse’ scenario. Last June, the Fed found that not only would bank capital bottom at common equity ratios surpassing 9% in a severe situation—a strong measure—but firms would also hold ample resources to meet credit demand, even if deposits were being pulled. Smaller regional banks were tested in June 2018, and they came out of their exams with even stronger results because they lack risky trading and capital markets exposures.
CreditSights believes its $500 billion estimate is a conservative number because recent stressed environments have led to inflows of deposits, instead of the steep deposit outflows that banks are tested against. “Risk-off capital market environments often drive higher deposit inflows,” said Rosenthal of CreditSights, “with positive implications for banks’ ability to meet facility funding demands.”
Proving support to customers through the disruption is not a very profitable near-term proposition for banks, especially as interest rates approach zero. Bank stocks have already plunged due to falling rates and the risk of a recession. But banks that soften the likely recession and credit freeze may come out with stronger long-term relationships.
“Lenders are generally not in the business of bankrupting their customers, especially if the COVID crisis is as transitory as we all hope,” says Brian Klock, a regional bank analyst at Keefe, Bruyette & Woods. “And with banking an increasingly relationship-based business, both wholesale and retail, there is more at stake for a lender than just a credit commitment.”
In a Saturday interview, Klock broached the idea that regulators will try to incentivize banks to stick with their customers, potentially by offering leniency on certain regulatory treatments. For instance, Klock believes banks may be willing to temporarily forbear on some loan payments or non-payments due to the disruption, provided they are not forced to account for those loans as non-performing, which would consume capital.
Last week, Kelly King, the CEO of Truist Financial, the largest super-regional bank in America, echoed the sentiment. He said regulators are studying ways to help banks provide relief to troubled customers at an investor conference on Wednesday. “In the billing of businesses and consumers, they need help and a lot of times, they can pay the bill. They just need a little extension of terms or maybe we want to drop the rate for them a little bit, but the minute we do that, it becomes a TDR (or troubled debt restructuring),” King said at a conference hosted by RBC Capital. “So we are appealing to the regulators, they seem receptive.” he added.