As early as last year, bankers and analysts predicted that a crush of competition would soon weigh on commercial lending margins. Data corroborating an incipient price war is still thin, but banks say the battle has been joined.
First Horizon National Corp. and Zions Bancorp. are among the regional banking companies that noted tighter spreads or easier terms becoming the norm, with Zions asserting that a handful of the country's largest banking companies are pushing the envelope.
Margin pressure is far from the biggest trouble facing commercial lenders now — a lack of desirable borrowers is. And on a historical basis, the net interest spreads on most credits are still quite generous, thanks in large part to the government's nearly zero-interest-rate policy.
But unlike in the credit boom leading up to the financial crisis, the pricing pressure does not appear to be pushing banks to compete further down the credit spectrum — a circumstance that highlights the stark changes the crisis has brought about in the industry, and the lack of confidence many institutions feel in their ability to price accurately for risk.
Analysts say the competition will start showing up in reduced interest income for banks of all sizes, diminishing the benefit from low interest rates.
No obvious trend of margin compression emerged in the second-quarter numbers banks reported last month or in the Federal Reserve's survey of business lending rates based on May data. Yet a flattening of the yield on short-term commercial loans may indicate what is ahead for lending books as a whole, said Jeff Davis, an analyst at Guggenheim Securities LLC.
"Four or five quarters ago, banks weren't as aggressive in poaching business, and they had blocks of these high-earning assets that weren't repricing," he said. "Fast-forward, those higher-yield assets are maturing and they're getting renewed at much lower rates."
Given most banks' continued fear of commercial real estate, he said, commercial and industrial lending is seen as one of the few refuges. And it is reasonable to think that, because of political pressure to lend and limited opportunities, large institutions will be increasingly motivated to compete for smaller credits.
"The pricing discipline that the banks have exhibited over the last two years, that may be hard to maintain," Davis said.
Harris Simmons, the chairman and chief executive officer of Zions, suggested that the country's biggest banks may be responsible for most of the pressure.
"The competition is generally coming from a handful of the four or five largest banks in the country," he told analysts in a July 19 conference call. "If you look at capital ratios for the largest banks relative to where they've been two or three years ago, there's a lot of capital there sitting in cash, effectively."
After the call, Zions' investor relations head, James Abbott, told American Banker that the company's loan officers report the fiercest push is coming from such entities as Wells Fargo & Co, JPMorgan Chase & Co. and Citigroup Inc.
Since Jan. 1, he said, Zions' staff has seen rates drop by about 100 basis points on the largest high-quality commercial credits. The company has seen a similar but more subtle trend for other quality credits, he said, with the yield on even the small loans dropping about 10 basis points.
Even so, Zions executives said on the call, this lending is still quite attractive, given the company's extraordinarily low funding costs. It replaced roughly $1 billion in interest-bearing deposits with a comparable total of noninterest-bearing accounts in the second quarter, he said, leaving it plenty of breathing room. The bank's incremental margin on new loans in the first quarter was more than 5%, and Simmons said he was optimistic that the competition would not get too cutthroat.
"I think you are going to have a lot more price discipline from the larger banks as they start to contend with having materially higher equity capital positions," Simmons said, "and that will be helpful in kind of leveling the playing field somewhat in terms of pricing of various kinds of loans."
Mike Moebs, the owner of the Moebs Services banking research firm in Lake Bluff, Ill., agreed that big banks' interest in business lending was the factor pressing on yield.
"If the big guys can efficiently dip into the territory of the small regionals and the community banks — and I question that — we're going to see further and further deterioration in the margins," he said.
In its earnings call, First Horizon posed a different concern, namely, that small banks might be easing loan terms excessively.
"We're starting to see some degradation or movement toward later-cycle types of structures in the C&I portfolio," said President and CEO Bryan Jordan. "Pricing and structure have come under a little bit of pressure here in the last, call it, two to two-and-a-half months."
Whatever the cause, sustained margin declines or heavier competition on terms should lead C&I lenders to try to appropriately price the risk of loans to slightly less creditworthy, but still reasonable, borrowers.
But so far, Davis said, he has heard and seen little indication that many banks are moving toward pricing for higher credit risk, even as loan growth is stagnant.
"That creates an opening for someone like CapitalSource or CIT," Davis said.
Another strategy for banks, he said, would be to return more aggressively to commercial real estate lending.
Moebs agreed, though he questioned whether most institutions were capable of pursuing such a strategy.
"We're in the infancy of trying to assess risk from a lender's side, I don't care what the risk analysts say," he said. "Ultimately, the banks have to be defining risks better."