How long can banks lean on C&I?

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Commercial and industrial lending has been a steady driver of banks’ profits over the past year, but bankers are warning that its contribution could diminish in 2020 as a result of falling interest rates and heightened concerns among borrowers that the economy is heading for a slowdown.

In earnings announcements this week, a number of regional banks said that their net interest margins narrowed in the third quarter, in part because the Federal Reserve cut interest rates twice in the quarter, forcing lenders to reprice floating-rate C&I loans. And with most economists expecting the Fed to lower rates at least one more time this year, banks are bracing for more margin compression.

Bankers also said that business owners are becoming more cautious about taking out loans because they are worried that the U.S. economy could be heading toward a recession.

“There is … a little bit of a lack of interest of making substantial capital investments, and that does cause a slowdown in the economy,” Dominic Ng, the chairman and CEO of the $43 billion-asset East West Bancorp, said during a Thursday conference call.

Falling rates have already started to take their toll at banks that have reported third-quarter results. Two of the biggest declines were at the $126 billion-asset M&T Bank in Buffalo, N.Y., and the $72 billion-asset Comerica in Dallas.

M&T’s third-quarter net interest margin narrowed by 13 basis points to 3.78% from the second quarter. Comerica reported a 15-basis-point decline, to 3.52%, and warned that it could lose as much as $35 million in net interest income this quarter due to the repricing of floating-rate commercial loans.

"Certainly, a downward rate environment puts more pressure on us from a top-line revenue perspective and then it is our goal to manage around the expense side, the credit side and other factors that we can control," Comerica CEO Curt Farmer said during a Wednesday conference call.

Some banks plan to defend profit margins by adding more non-interest-bearing deposits. At the $34 billion-asset F.N.B., the Pittsburgh-based parent of First National Bank, the net interest margin dropped by 19 basis points to 3.17%. But F.N.B. has boosted its collection of non-interest-bearing demand deposits, which rose 5% year over year to $6.3 billion in the third quarter.

“We still have a lot of levers kind of in our pocket as we look at … protecting the net interest income,” Chairman and CEO Vince Delie said during a Thursday conference call.

Growth in C&I loans also appears to have slowed, or even declined, after several quarters of consistent growth. At M&T, for example, C&I lending had increased in three straight quarters before declining slightly in the third quarter.

Darren King, the chief financial officer, said loan demand was particularly weak from automobile dealerships that typically take out loans to purchase inventory.

At the $145 billion-asset KeyCorp in Cleveland, commercial clients’ attitudes have turned more cautious amid signs that economic growth could slow, Chief Operating Officer Chris Gorman said in a Thursday conference call.

KeyCorp nevertheless expects overall loan growth to be in the low single digits through the rest of this year, driven by both commercial and consumer lending. KeyCorp’s C&I loans rose 8% to $48.3 billion year over year in the third quarter.

“The pipelines remain strong,” Gorman said. “But I think clearly there are some challenges there.”

Bryan Jordan, the chairman and CEO of the $44 billion-asset First Horizon National in Memphis, Tenn., said he’s also seen signs of a slowdown.

The operating environment "has slowed a little bit,” Jordan said. “Job growth … by historical standards is good, but it’s not as great as it was.”

Other regional banks have made specific strategic moves to counteract a potential recession. East West Bancorp, for example, has been trying to get out in front of the U.S.-China trade war. The bank has exited $250 million in C&I loans tied to businesses that executives felt would be affected by tariffs, Ng said.

“We sent those clients to other banks,” Ng said.

The $49 billion-asset Signature Bank in New York has rapidly shifted to a business model that focuses heavily on C&I lending and is less reliant on commercial real estate lending. Signature’s C&I loans rose 48% to $10.2 billion from a year earlier.

Signature is also expanding into a corner of C&I lending that CEO Joseph DePaolo sees as less risky. The bank recently hired a group of bankers who specialize in lending to private investment funds backed by big, institutional investors like pensions and university endowments. Capital from these investors can be called upon to repay these loans, which DePaolo described as “incredibly safe.”

“If the economy slows down, we’re not going to fret,” DePaolo said in an interview Thursday.

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Commercial lending Net interest margin Earnings M&T Bank KeyCorp First Horizon National Comerica Bank