The headquarters of JP Morgan Chase on Park Avenue in New York (file). Banks including JPMorgan Chase & Co are passing on risky debt deals again this year, most recently a $445mn loan for an acquisition by KKR & Co’s Alliant Insurance Services, according to two people with knowledge of the deal.

Bloomberg/New York/Washington


US banking regulators summoned Wall Street’s biggest lenders to New York’s Pierre hotel in November to hammer home a message that had gone largely unheeded for more than a year: Stop arranging risky corporate loans that were inflating another credit bubble, or potentially face fines or suspensions.
The warnings from the Federal Reserve and Office of the Comptroller of the Currency are starting to sink in.
Debt levels for companies funding takeovers in the leveraged-loan market fell in the fourth quarter for only the second time since 2012, according to Standard & Poor’s Capital IQ. Banks including JPMorgan Chase & Co are passing on risky debt deals again this year, most recently a $445mn loan for an acquisition by KKR & Co’s Alliant Insurance Services, according to two people with knowledge of the deal. The crackdown may reduce loan issuance by as much as $80bn in 2015, according to Bank of America Corp.
“There were repeated attempts made to make it clear what the expectations were,” Martin Pfinsgraff, the senior deputy comptroller for large bank supervision at the OCC in Washington, said in a telephone interview. “Ultimately, all the banks got clarity.”
The data shows that regulators may be having success in curbing bubbles with supervisory tools even as ultra-low interest rates fuel demand for high-risk assets. As Fed chair Janet Yellen keeps monetary accommodation aimed at reducing unemployment and preventing further disinflation, the speculative-grade loan market has ballooned 65% since 2010 to $823bn.
When the Fed, the OCC and the Federal Deposit Insurance Corp first issued the lending guidelines in March 2013, success was far from certain.
Debt ratios for companies funding buyouts in the speculative-grade loan market continued to increase, with one measure of leverage climbing from 4.9 times earnings in the first quarter of 2013 to as high as 6.3 in the three months ended last September, according to S&P Capital IQ. The ratio dropped to 5.6 in the fourth quarter and continued to hold at 5.7 through January.
The pressure from regulators “has worked very well,” said Karen Shaw Petrou, managing partner at Federal Financial Analytics Inc, a Washington consulting firm whose clients include the world’s largest banks. “Regulators are making it clear that they mean what they say so that banks understand evasion has consequences.”
Regulators did receive some help that has little to do with the lending crackdown. A 51% plunge in oil prices since June accelerated a flight by investors from funds that buy leveraged loans, making it difficult for riskier companies to raise debt. Outflows of $28.7bn from the funds in the 12 months ended January 31, was the biggest withdrawal in any fixed- income asset class during the period, according to Morningstar Inc data.
But the tide also started turning after banking supervisors stepped up efforts late last year to make it known they weren’t letting up. The Fed, which had previously collected loan data in an annual survey, started looking at loans on a monthly basis, scrutinising individual deals and risks such as a borrower’s ability to repay.
At least two banks were issued with official letters of warning, Pfinsgraff said. He also personally spoke to the heads of banks on the issue, he said.
The meeting at The Pierre on New York’s Fifth Avenue the Friday before Thanksgiving, described by six people with knowledge of the gathering, represented the strongest warning yet. In an unusual move, the Fed and the OCC delivered the message together, making it clear all underwriters were expected to adhere to the rules regardless of which regulator oversees them, said the people, who asked not to be identified because the meeting was private. The banks were also told there would be repercussions if they continued to flout the guidelines.
Pfinsgraff said regulators were prepared to take “stronger action,” including issuing “cease and desist orders” if banks repeatedly ignored the guidelines.
The crackdown by regulators was partly behind a 23.7% decline in fees that banks collected from underwriting corporate loans in 2014, compared with 2013, according to Brian Kleinhanzl, an analyst at Keefe, Bruyette & Woods Inc. Fees for underwriting leveraged loans can be about 2 percentage points, or $20mn on a $1bn credit, according to people with knowledge of such deals.
As banks receive annual reviews from regulators, they’re being reminded that too many loan deals weren’t compliant with the guidelines last year, Bank of America strategists led by Michael Contopoulos said in a February 18 note to clients. The scrutiny is poised to prevent $40bn to $80bn of loan deals this year, the analysts estimated. JPMorgan, Bank of America, Credit Suisse, Deutsche Bank, Barclays and Morgan Stanley are among banks that have passed on the chance to fund risky deals since regulators stepped up their scrutiny, people with knowledge of the matter said last year.
After leading the financing for Alliant’s 2012 buyout by KKR, JPMorgan didn’t participate in the company’s loan in January because it was deemed too risky under the lending guidelines, the people with knowledge of the matter said, asking not to be identified discussing private negotiations. Macquarie Group Ltd and KKR arranged the deal.
Kristi Huller, a spokeswoman for KKR, declined to comment, as did Rishi Sharma of Macquarie.
The pullback is creating some concern among supervisors that the risk is being pushed to less-regulated lenders.
Pfinsgraff acknowledged that banks’ partial retreat is pushing lending activities out beyond the purview of supervisors and said that regulators are closely monitoring the situation.
“We have had discussions with the banking industry on this and they all ask the same thing: Are we worried? We can’t not be worried,” he said.