The credit market pendulum has swung from one extreme to another and then back again. The financial crisis precipitated by the Lehman Brothers bankruptcy appears to be a dim and distant memory. Commercial banks are climbing all over themselves today to write new business and demonstrate top line growth to investors and analysts. The tightened credit standards of the last couple of years have begun to fall by the wayside with the banks’ increased appetite for risk.
Janet Yellen, Vice Chairman of the Federal Reserve Bank, during a speech in Tokyo on June 1, 2011 noted “Monetary policy in the United States has been highly accommodative now for a number of years.” One can readily conclude that as a result of those policies capital constraints no longer exist and there is excess liquidity available in the financial system today.
Policy makers were obviously aware that the accommodative policy would precipitate an increase in the appetite for risk due to the stabilization of asset prices, the latter clearly being their intent. Yellen’s comment “But a sustained period of very low and stable yields may incent a phenomenon commonly referred to as “reaching for yield,” in which investors seek higher returns by purchasing assets with greater duration or increased credit risk” confirms their expectation was accomplished.
However, in her closing remarks Yellen observed that “At present, we see few indications of significant imbalances, and the use of leverage appears to remain well below pre-crisis levels. That said, I’ve noted some recent developments that warrant close attention, including indications of potentially stretched valuations in certain U.S. financial markets and emerging signs that investors are reaching for yield.”
This somewhat benign view is supported when one looks at the statistics for commercial and industrial loans outstanding at commercial banks provided by the Federal Reserve Bank. In September 2008 there were 1,509 billion dollars of commercial and industrial loans outstanding when the credit markets seized up and shutdown. After plummeting 20.2% to 1,204 billion dollars in October of 2010, it began to rebound. Thus far the rebound has been muted with only a modest increase of 4.5% to 1,258 billion dollars as of May 2011.
Historically, economic growth has driven the demand for credit. But with the economy limping along at 1.9% growth in the first quarter of 2011 and probably not significantly greater in the second quarter, the outlook is far from bright. It should come as no surprise then that the demand for new credit especially from middle market corporate borrowers has been anything but robust.
Consequently, companies with a credible story should have little difficulty refinancing loans coming due with their existing lender. The drive by commercial banks to deploy capital and add assets may well provide an excellent opportunity to have a new lender compete for the business replete with better pricing and terms.