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TRLPC: US regulators expected to classify more energy loans as high risk

Wed 3rd February, 2016 8:10pm
By Lynn Adler 
    NEW YORK, Feb 3 (Reuters) - U.S. regulators are likely to 
classify more oil and gas loans as high risk when they start a 
new bank portfolio review in early February due to the fall in 
crude prices to a 12-year low since the last review, which will 
cut credit access and escalate defaults for cash-starved energy 
companies, analysts and investors said. 
    The Shared National Credit (SNC) review of bank loan 
underwriting standards is stepping up to twice a year in 2016 
from the usual annual exam as regulators crack down on lending 
practices that could pose systemic risk, including loans 
extended to troubled oil and gas companies.  
    This closer look by the Federal Reserve, Office of the 
Comptroller of the Currency (OCC) and the Federal Deposit 
Insurance Corp could force banks to further increase reserves to 
buffer losses on these loans, while providing less debt to these 
struggling energy companies, sources said. The new review period 
began February 1, an OCC spokesman said. 
    "It will likely prompt further risk rating downgrades in 
their (banks') SNC portfolios, which may lead to further 
provisioning," said Julie Solar, a senior director at Fitch. 
    Average bids on U.S. oil and gas loans fell to 76.6 on Feb 2 
from 79.1 at year end and a recent peak of 92.8 last May, 
according to Thomson Reuters LPC data. Bids in the overall 
leveraged loan market are at the lowest levels since November 
2011, pressured by the prospect of steep defaults and broad 
markets volatility. 
    Leveraged lending and oil and gas commitments were the main 
source of underwriting weakness for 28% of sampled loans in last 
year's SNC review. 
    The new SNC review will analyze data up to Sept 30, 2015, 
but current lower oil prices will factor into regulators' bank 
loan analysis, Solar said. 
    Additionally, hedging protection for oil and gas companies 
is due to mature and may not be renewed, their capital markets 
access is diminishing and their ability to cut capex further may 
be constrained, Solar and other Fitch analysts said, which will 
further increase pressure on ailing energy firms' finances.   
    "Companies with low ratings and maturities in 2016 and 2017 
will need to deal with higher borrowing costs as credit markets 
tighten, adding to refinancing risk and default pressures," 
Moody's Investors Service said in a January 26 report. 
    Moody's expects the U.S. speculative-grade default rate to 
increase to 4.4% at year-end from 3.2% at the end of 2015, 
driven by oil and gas and other commodities. The number of 
defaults hit a six-year high last year. 
    After the SNC's most recent findings were released in 
November, regulators warned about oil and gas exposure, and some 
banks increased loan loss reserves in the fourth quarter as the 
oil price continued to slide. 
    U.S. oil trades around US$32 per barrel, after falling last 
month to around US$26 a barrel for the first time since 
September 2013. 
    Banks are expected to take a harder line this spring in 
their semi-annual reviews of borrowing base facilities, which 
value assets backing reserve-based loans for energy companies. 
    "Given where prices are now, we expect that it (the 
borrowing base redetermination period) is going to be worse than 
it was in October when oil prices were US$40 - a point where 
many forecasters are now saying they are unlikely to return for 
a couple more years," said Trey Parker, partner and head of 
credit at Highland Capital. 
    Lenders are already retreating from providing credit. New 
leveraged loans for oil and gas companies sank 49% to US$49bn 
last year, the lowest since US$21bn in 2010, according to 
Thomson Reuters LPC. 
    While credit ratings agencies are forecasting rising debt 
defaults, the fallout is expected to be less severe for 
leveraged loans than high-yield bonds, which have three times 
more energy exposure. 
    "Regardless of whether or not we see an uptick in the 
default rate in energy loans, energy credit is only 3.5% to 4% 
of the overall loan market, so even if you had a 25% default 
rate in all energy loans, it would only be about a 1% uptick in 
the overall loan market default rate," Parker said. 
    "We believe the loan and high-yield markets have already 
priced in a lot of the defaults in the energy space," he said.   
    Fitch expects problem energy companies to boost U.S. 
institutional leveraged loan defaults to US$24bn this year from 
US$16.4bn last year. 
    The OCC in December said that it was closely monitoring oil 
and gas-related exposure as one of the risks that could develop 
into a systemic problem and one that may already raise concern 
at individual banks. 
    Wells Fargo has set more money aside to cover bad oil and 
gas loans, Reuters reported last month. Citigroup also set aside 
US$250m, but said it would need twice that amount if oil held at 
US$25 per barrel. 
 (Editing By Tessa Walsh and Michelle Sierra) 
 ((jonathan.methven@thomsonreuters.com; Reuters Messaging: 
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