Download Saunders Cornett Chapter 27

Chapter 27
Loan Sales and
Other Credit Risk
Management
Techniques
K. R. Stanton
© 2006 The McGraw-Hill Companies, Inc., All Rights Reserved.
Overview
27-2
This chapter discusses the growing role of
loan sales and other techniques that can be
used to address the control of credit risk in
FIs. The use of loan sales is not new and
may even involve foreign loans. With
development of secondary markets for many
types of loans, and securitized variants, loan
sales are employed even by relatively small
FIs.
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Loan Sales


Loan sales have taken place for over 100
years.
Correspondent banking



Small banks selling parts of loans to larger banks.
Participations.
Expansion of loan sales during 1980s.


27-3
Due to expansion of HLT loans.
Early 1990s decline in loan sales followed by
recent expansion.

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Expanding economy and resurgence in M&A’s.
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Bank Loan Sale Market


27-4
May be sold with or without recourse.
Types of loan sales


Emerging market
Domestic


Traditional short term
HLT Loan sales
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Traditional Short Term

27-5
Key characteristics





Secured by assets of borrowing firm.
Loans to investment grade borrowers or higher.
Short term.
Yield closely tied to commercial paper.
Denominations of $1 million +.
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HLT Loan Sales

27-6
Key characteristics






Term loans.
Usually senior secured.
Long maturity (often 3- to 6-year maturities).
Floating at rates tied to LIBOR, prime or a CD
rate.
Strong covenant protection.
Usually distinguished as distressed /
nondistressed.
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Web Resources
27-7
Visit:
Loan Pricing Corporation
www.loanpricing.com
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Types of Loan Sales Contracts

Participations


27-8
Limited contractual control.
Assignments




Currently form bulk of the market (90% +).
All rights transferred on sale of loan.
Normally associated with Uniform Commercial
Code filing.
Complexity associated with accrued interest
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The Buyers






27-9
Often segmented.
Example: distressed HLT loan buyers generally
investment banks, hedge funds, vulture funds.
Inter-bank loan sales in traditional market
historically due to branching restrictions.
Foreign banks important buyer of domestic
loans
Insurance companies and pension funds in
long-term loans.
Mutual funds and nonfinancials
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The Sellers
27-10
Major money center banks, U.S.
government and its agencies.
 Good Bank - Bad Bank:




Establishment of subsidiary banks specializing
in handling nonperforming loans (NPLs).
Increases value of Good Bank.
Allows structuring of Bad Bank to improve
management incentives and operating
efficiency.
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Other Sellers

Foreign banks


ING is a major market maker (HLTs).
Investment Banks


27-11
Bear Stearns. Generally large HLTs.
Government and agencies (HUD for
example)


Increased due to Federal Debt
Improvements Act, 1996.
Largest sales to date, RTC.
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Web Resources
27-12
FDIC www.fdic.gov
Housing and Urban Development
www.hud.gov
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27-13
Why Banks and Other FIs Sell Loans
Credit risk management
 Reserve requirements



If sold without recourse, removed from balance
sheet.
Fee income

boosts reported earnings under current
accounting rules.
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Why FIs Sell Loans (continued)

Capital costs


27-14
Meet capital requirements by reducing assets.
Liquidity risk reduced by loan sales.
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Factors Deterring Future Loan
Sales Growth
27-15
Access to commercial paper market
 Customer relationship effects



Customers may take negative view of having
their loan sold to another party.
Legal concerns

Fraudulent conveyance.
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27-16
Factors Encouraging Loan Sales Growth
BIS Capital Requirements
 Market Value Accounting
 Asset Brokerage and Loan Trading
 Government loan sales
 Credit rating of loans offered for sale
 Purchase and sale of foreign bank loans


Goldman Sachs fund to buy troubled loans from
Japan’s second largest bank, SMFG.
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Pertinent Websites
27-17
BIS www.bis.org
HUD www.hud.gov
FDIC www.fdic.gov
FASB www.fasb.org
Loan Pricing Corp. www.loanpricing.com
SEC www.sec.gov
Wall Street Journal www.wsj.com
McGraw-Hill/Irwin
© 2006 The McGraw-Hill Companies, Inc., All Rights Reserved.