Before trust-preferred securities emerged as a popular fund-raising tool about a decade ago, small banking companies often raised capital by borrowing from their correspondent banks.
Now that investor demand for trust-preferreds is waning just as many bankers are coming under pressure from regulators to shore up capital, the holding company loan — a loan made to the parent using the subsidiary's stock as collateral — is making a comeback.
Bankers' banks, correspondent banks, and money center banks say demand for such loans is particularly high in regions hardest hit by the real estate downturn, such as the Southeast and Southern California.
For example, last quarter Pacific Coast Bankers' Bank in San Francisco made an average of about $100 million of the loans a month, compared with about $100 million it made the first half of last year.
"It really caught fire in February," said Steve Brown, the president and chief executive of the $500 million-asset unit of Pacific Coast Bankers' Bancshares. "A lot of banks realized at that point they didn't have any options. The primary driver was the regulatory crackdown."
Trust-preferreds, like holding company loans, allow banks to raise capital without diluting ownership, but often bankers have opted for the securities because they were less expensive, did not require personal guarantees from the bank ownership, allowed for deferred payments, and had favorable tax treatment.
But last year's subprime mortgage blowup caused a disruption in the securitization market, and investors abruptly lost interest in the collateralized debt obligations in which trust-preferreds were pooled, so banks in need of capital started turning to correspondents for holding company loans.
The loans typically have a term of five to 10 years, and for banks with less than $500 million of assets, the funds can be pushed down to the subsidiary and used as Tier 1 capital.
The rates banks pay on the loans are determined on a case-by-case basis, but they generally are more favorable than what the banks would pay on trust-preferreds these days — about 350 basis points above the London interbank offered rate.
Trust-preferreds have not gone away completely. Wells Fargo & Co. has been issuing trust-preferreds for small banks since the third quarter and has been keeping the securities on its own balance sheet.
Ron Caton, an executive vice president and head of correspondent banking at Wells, said it also has been making more of the holding company loans.
"We have had increased requests for the holding company loans, and we've been doing some of that, but we have also found that when banks find we can fund trust-preferred transactions, they sometimes do that instead," Mr. Caton said.
Silverton Bank of Atlanta, which was known as The Bankers Bank until January, also has generated more interest in holding company loans. Last quarter the volume of such originations nearly tripled from a year earlier, to $127 million.
"In many cases they don't want to or can't wait on the trust-preferred securities market to come back," said Earl Howell, the chief operating officer at the $2.7 billion-asset unit of Community Financial Services Inc. "Banks are starting to take advantage of this facility."
Silverton, which offers correspondent banking services across the nation, said it had more loan demand in the Southeast, though that may have been a result of its historic emphasis on the area.
Still, bankers' banks in less-volatile markets such as Oklahoma, Illinois, and the Northeast said they have not noticed any increased interest in the holding company loans.
"It's not something that has affected our volume at this point, but it is something we are aware of," said John Kock, a senior vice president and the chief lending officer at The Bankers Bank in Oklahoma City, which has $235 million of assets.
TIB-the Independent BankersBank in Dallas said such loans increased 36% in the first quarter from a year earlier, to $112 million. The $1.8 billion-asset bank, which also serves a broad geographical area, said its loans do not appear to be consolidated in any particular market.
Jim McKillop, the president and chief executive officer of Independent Bankers Bank, a Lake Mary, Fla., unit of Bankers' Bancorporation of Florida Inc., said the $423 million-asset bank has only recently started discussions with banks about the loans.
It has not made any of the loans yet, but it does expect to receive applications for the loans in the next two weeks, Mr. McKillop said. Because they had higher-than-average capital levels before the economy softened, the bank's Florida customers might not need capital as badly as those in some other places, he said.
Still, he would advise banks to shore up their capital, potentially through a holding company loan, even if they do not necessarily need it right now. "Some have already gotten into a situation where they are losing money, and they have a large percentage of nonperforming loans on their books or coming on to their books, and in that case they wouldn't be a likely candidate for a loan from us."
Sanford "Sandy" Brown, the managing partner in the Dallas office of Bracewell & Giuliani LLP, said lenders need to be aware of the risk associated with the loans. One of his clients is a correspondent bank trying to collect on a loan to a community bank holding company.
"There aren't many good issues when the subsidiary bank gets in trouble," Mr. Brown said. "Foreclosing on one of these is at best suboptimal. … If the bank ultimately fails, which we saw a lot of in the 1980s, the lender is at the very end of the line, behind the uninsured depositors."
