Banks Shun the Markets As Cost of Capital Climbs
Reports of big second-quarter losses at two major California banks have depressed the market for bank stocks and bonds, making it more difficult for almost all U.S. banks to raise fresh capital.
The announcements of big second-quarter losses - at Wells Fargo & Co. and First Interstate Bancorp - have sharply heightened investor concerns about potential loan losses at other big banks. The biggest worries appear to concern banks' real estate exposure and loans to highly leveraged companies.
"Anybody who was looking at the debt markets is probably saying, |Well, I'll just let this blow over,'" said one investment banker.
This, of course, has left the banks chary of approaching the market with new issues of debt or equity. "I think the markets are less receptive because of the uncertainty," said Brian Nocco, a vice president at Continental Bank Corp.
It remains unclear how long the current downdraft will last. At the earliest, investors' fears are not likely to be allayed until second-quarter results are posted over the next few weeks.
Change of Climate
This is a sharp turn from a climate that had been improving steadily. Banks eagerly tapped the capital markets in the first half of the year, intent on strengthening capital ratios after a year when capital raising was painfully expensive.
They issued $2.48 billion in subordinated debt between January and July 1991 - nearly three times the amount for the period in 1990. Similarly, banks issued $2.02 billion in common equity and $1.95 billion in preferred stock this year, up from $685 million and $470 million.
Issuers were lured into the market in growing numbers as the year wore on, as prices on bank stocks and bonds rose fairly continuously during the half.
Surprise from Wells
When Wells Fargo surprised the market on June 24 by announcing a $350 million addition to its loan loss reserves. Investors reacted by pulling out of Wells and other bank stocks. Later in the week, rumors about the liquidity of a money-center bank pushed down the prices of many banks' bonds.
Investors received a further jolt on Monday when First Interstate said it would add $295 million to its loan reserves while slashing its dividend 60%, to 30 cents a share, for the third quarter.
As a result, any banks with plans to issue new securities are now waiting for the market climate to improve.
Consider the experience of Citicorp. The nation's largest bank saw its stock price rise from $12.75 at the beginning of the year to $16.375 on June 14, shortly before Wells' announcement. Its 9.75% subordinated notes due in 1999, which traded 400 basis points above comparable Treasuries at the beginning of the year, were changing hands at just 185 basis points over Treasuries in mid-June, indicating that investors were demanding a smaller risk premium.
But as the West Coast banks released their bad news, and rumors circulated about the solvency of another large bank, Citicorp's stock price fell and the yield on its bonds rose. Citicorp's stock closed at $14.75 Monday night and its notes were trading at nearly 245 basis points over Treasuries - a sharp rise in the premium.
To be sure, banks usually stay out of the capital markets in the first few weeks of a quarter. They want to wait until they have released their quarterly results in order to avoid thorny questions about disclosure.
Moreover, a number of banks have already met their capital-raising targets. For example, Continental's Mr. Nocco said he has no immediate need to issue new debt or equity, having tapped the capital markets three times already this year.
But right now it looks as if the hiatus in new issues could last beyond the middle of July, at least for banks not in dire need of new capital.
"If I had a choice, would I (issue securities) now? No, I'd probably wait," said a senior official at one New York bank.
A Tougher Assignment
"It's possible to get something done. It's just going to take more work than three months ago."
One capital markets specialist said that, given the amount of lead time such issues require, he does not expect to see any large bank equity offerings before late August.
"I would be extremely surprised if any large bank issued common stock in the next four to six weeks," he said. "The markets were a lot more receptive two weeks ago. A lot of people were thinking about a lot of things. Now they're rethinking their plans."