Thawing credit markets likely to become a Mississippi flood

05.14.2011 - Capital Markets

Commercial bank CEO’s are under great pressure today from Wall Street analysts to increase revenues and profitability if they want to receive favorable endorsements from analysts.  According to recent conversations with a number of senior commercial bank lending executives, this will require banks to add assets in substantial quantities.

As one executive noted, the bank earns a paltry.25% interest on funds on deposit with the Federal Reserve Bank whereas loans made to credit worthy companies have earned substantially more.  For much of 2010 it was in the range of LIBOR plus 2% to 2.5% for senior debt.  In 2011, credit spreads have narrowed and are now in the range of LIBOR plus 1.5% to 1.75% for high quality credits.  This a significant improvement over what the Federal Reserve pays despite the added risk.

There has also been an appreciable increase in the amount of leverage available.  The May 23, 2011 edition of Churchill Financial’s weekly snapshot of deals and trends in the capital markets “On The Left” indicates senior debt multiples of EBITDA increased from 3.0x in 2010 to 4.5x in 2011 and total debt to EBITDA increased from 3.7x to 4.7x.

All of this should bode well for companies considered to be lesser quality credits.  There are only so many high quality credits to go around.  It would appear we are approaching an inflection point where there will be an even greater loosening of credit standards in the coming months for companies at the lower end of the middle market as banks go further out on the risk curve in the search of income.

Recently, there have also been unconfirmed rumors that “covenant lite” transactions have started to pop up like daffodils in spring.