Midwest banks resist urge to loosen lending standards

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Midwestern lenders expect more challenges heading into the new year.

Commercial lending has slowed some in recent quarters, and expectations are for more of the same in 2020. A deceleration in commercial loan demand, along with lower interest rates, is forcing more banks in the region to cut prices to keep the best clients.

Trade battles and rising tension with Iran also have bankers worried.

"I expect the events in the Middle East in recent days to further tamp down demand for C&I loans," said Mark Bruin, president and CEO of the $2.2 billion-asset National Bank of Indianapolis.

Despite those concerns, Midwestern bankers believe they can clear most of 2020's hurdles.

Many are hopeful that sound underwriting will help the region fare better during a recession than other parts of the country. While open to lower rates, banks in the Midwest have, by and large, been reluctant to compromise the terms of new loans.

Property values in the Midwest are not appreciating as quickly as they are in other regions, which impacts collateral values and requires lenders to take a more conservative approach to underwriting.

Midwestern banks were hit "pretty severely" during the last recession because of their dealings with the auto industry, agriculture and commercial real estate, which explains why many are now erring on the side of conservatism, said Damon DelMonte, an analyst at Keefe, Bruyette & Woods.

DelMonte said such caution could help banks in the region when the next recession materializes because they tend to have less leverage and more capital.

"While they should encounter some credit issues, I think there would be more of a soft landing versus a fire sale to get rid of problem loans," DelMonte added.

Commercial clients still feel relatively good about business prospects, said Alberto Paracchini, CEO of the $5.4 billion-asset Byline Bancorp in Chicago. Though low unemployment has created some challenges for growth-minded companies, many still need equipment and bigger facilities.

Despite some optimism over U.S.-China trade talks, businesses are concerned about the possibility of costlier raw goods and shrinking profit margins, Paracchini said.

Commercial real estate is a mixed bag for banks, depending on the project.

Overall, fundamentals remain sound in the Midwest and foreign investment is expected to pick up, said Jim Adkins, a managing partner at Artisan Advisors in Chicago.

But continued weakness in the retail sector is front of mind for Jim Tubbs, president and CEO of the $1.3 billion-asset State Bank of Cross Plains in Wisconsin. He said a number of mixed-use projects are struggling to find retail tenants to lease ground-level spaces.

"In practicality, the model makes sense, but in actuality it has a negative impact on the product," Tubbs said.

Commercial real estate tied to industrial projects remains strong, Bruin said. Central Indiana serves as a large logistics and transportation hub, fueling demand for warehouse space.

Small-business lending continues to hum along, said Mike Fleming, president and CEO of the $107 million-asset Litchfield National Bank in Illinois. The bank has also been able to pick up more business for owner-occupied properties and small investor loans.

The key for many bankers is establishing a balance between commercial and CRE.

At Byline, commercial loans were nearly 29% of all loans on Sept. 30, while CRE made up 20% of the portfolio.

"I'd be pretty happy if I could take a snapshot today, and five years from now have the same type of composition," Paracchini said.

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