Fed, OCC differ in enforcing leveraged lending guidelines

April 25, 2014

(Repeats story with no change to text)

By Lauren Tara LaCapra and Greg Roumeliotis

NEW YORK (Frankfurt: HX6.Fnews) , April 25 (Reuters) – Some major U.S. banks areprivately complaining that they are getting the short end of theregulatory stick when it comes to the profitable business oflending to heavily indebted companies.

Banking and regulatory sources with direct knowledge of thesituation said the U.S. Federal Reserve and the Office of theComptroller of the Currency (OCC) appear to be taking differentapproaches to implementing a set of guidelines on leveragedloans, even though they issued them jointly in March last year.

The OCC, a division of the U.S. Treasury Department, iszealously implementing them, while the Fed is more relaxed aboutit, the sources said. While all major Wall Street banks areregulated by the Fed, the OCC oversees only those with nationalbank charters, which allow a bank to build a nationwide branchnetwork.

The OCC, for example, is more frequently contacting banksabout the issue and querying them extensively over theircompliance in loans they make to heavily indebted companies.OCC-regulated banks have also received more verbal warnings aswell as official letters demanding fixes than banks that areregulated just by the Fed in the United States, the sourcessaid. Such letters and warnings are the first steps before finesand penalties.

The difference in approach, which even some regulatorysources privately admit exists, has meant that banks such asCredit Suisse Group AG and Goldman Sachs Group Inc are able to be more aggressive in making leveraged loansjust because they are regulated by the Fed, not the OCC, thesources said.

As a result, these banks could gain ground at the expenseof rivals that are regulated by the OCC, including JPMorganChase & Co, Bank of America Corp and Wells Fargo (Berlin: NWT.BEnews) & Co, the sources said.

Complicating matters further, the guidelines are notprescriptive enough and leave room for interpretation, thesources said. One senior Wall Street executive said foreignbanks are getting a pass from the Fed on deals thatOCC-regulated banks can no longer do.

“We would hope going forward that these guidelines not onlyget applied to U.S. banks but get applied to international banksas well as for those entities that are not part of the bankingsystem,” Bank of America Chief Financial Officer Bruce Thompsonsaid, when asked about the issue in a conference call withreporters on April 16.

Eric Kollig, a spokesman for the Fed, declined to comment,as did Bryan Hubbard, a spokesman for the OCC. The banksdeclined to comment.

When the Fed and the OCC, along with the Federal DepositInsurance Corp, first issued the guidelines in March last year,they wanted all banks to be more conservative about makingleveraged loans, a category considered risky because theborrower takes on a lot of debt.

The guidelines were meant to ensure that banks do not end upwith too much exposure to such companies and avoid a repeat ofthe financial crisis when the market for such loans evaporatedand banks were left holding the loans.

Now, if the uneven implementation of the guidelines were tocontinue, it could have the effect of concentrating risk on somebanks’ balance sheets.

Some sources said that it could create conditions that couldeventually push risky lending entirely out of the regulatedbanking sector and into the lightly-regulated realm of shadowbanking, consisting of firms such as private equity and hedgefunds.

The details of how these guidelines are being implementedalso provide a window into activity that tends to remain behindthe scenes, and it gives weight to an oft-heard complaint onWall Street these days – that various regulators are notspeaking with one voice and that there is often not enoughclarity in what they would like banks to do.

Regulatory sources said that there are different opinions onleveraged lending among the different agencies.

One regulatory source who spoke on the condition ofanonymity because of rules against discussing internalnegotiations publicly said his agency needs to “enforce morediscipline on our side of the table.”

Still, the source added that if OCC-regulated banks do losemarket share in the coming months, “from our perspective, that’sby design.”

While bankers say that the guidelines are driving morecautious underwriting decisions, it is not yet showing in marketdata, such as the rankings of banks by the amount of loans theyissued.

OCC-regulated Bank of America (TLO: BAC.TInews) , for example, has held on toits No. 4 spot in the U.S. leveraged loan league table in the 12months since the guidance were issued, according to ThomsonReuters data. The top spots continue to be occupied by the sameFed-regulated banks – Barclays Plc (LSE: BARC.Lnews) , Credit Suisse (NYSE: CSnews) andRoyal Bank of Canada (Toronto: RY-PC.TOnews) .

Banks won’t know how well they have followed the guidelinesuntil after the regulators conduct an annual review of thebanks’ loan books later this year.

Data on the average amount of leverage, which is measured asa ratio of a company’s debt to its cash flow, is also mixedsince the guidelines were issued, with no clear direction onwhether it is causing banks to be more conservative.

Bankers said they are nevertheless having an effect. In aninterview on April 17, for example, Ruth Porat, the chieffinancial officer of OCC-regulated Morgan Stanley (Berlin: DWD.BEnews) , said her bankwas “passing on some deals as have a number of our peers.”Morgan Stanley is regulated by the OCC because it has a nationalbank charter.

Porat added that the strength in underwriting volumes formore creditworthy companies has more than offset lost revenuefrom those deals.

Still, it could have been a growing business opportunity forbanks at a time when Wall Street’s many other businesses arealso under pressure.

Leveraged loan issuance hit a record $1.14 trillion in theUnited States last year, up 72 percent from the year before,according to Thomson Reuters Loan Pricing Corp. Banks received $1.47 billion in fees in 2013 for U.S. leveragedloans, up 17 percent from 2012, according to Thomson Reuters (Frankfurt: TOC.Fnews) andFreeman Consulting data.

“It tends to be a higher margin business than say justunderwriting a corporate bond,” said Jeff Harte, a bank analystwith Sandler O’Neill.

Harte said that while the boom in high grade corporate debtissuance may be nearing its end, the growth in leveraged loansis “still pretty early stage” in this cycle. (Additional reporting by Peter Rudegeair in New York, editingby Paritosh Bansal and John Pickering)

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