Between low-interest rates, the concerning rise in COVID-19 cases, and tough competition for quality commercial loans, community banking is a tough business. While there has been a nominal deterioration in credit quality thus far, a deterioration in the business environment related to the pandemic and lack of fiscal stimulus may change that. Net interest margins at community banks are declining, and the trend is likely to continue through 2021.
On October 23, 2020, the International Swaps and Derivatives Association (ISDA) published the Fallback Protocol (Protocol) that allows firms that use LIBOR to transition to SOFR if LIBOR becomes unavailable in the future. CenterState Bank’s ARC program allows community banks to offer up to 20-year fixed-rate loans to customers, but retain an adjustable asset priced at 1-month LIBOR plus a credit spread, and CenterState (not the community bank) carries the derivative and converts the fixed rate that the borrower pays to the adjustable-rate that
The economic consequences of Covid-19 have altered average credit quality and created a flat and shallow yield curve. Community banks are working diligently to support their local communities and survive in these challenging times. One tool that many community banks have utilized in this business environment is a loan-level hedging product.
Since March of this year, many community banks have been working to provide cash flow relief to customers who have sound business models but require some temporary payment restructuring caused by business disruption as a result of the Covid-19 pandemic. CenterState has been involved in those same restructurings both as a lender and as a hedge provider under the ARC program. We have learned some valuable lessons that we would like to share.
We have been writing on the various strategies available to community banks when structuring commercial loans in this current challenging business and credit environment. With the flat and low yield curve, we have discussed how banks may offer commercial loans through the ARC hedge program using two different strategies: 1) embedded floors, and 2) forward starting floaters.
We work on thousands of lending transactions every year with hundreds of community banks across the country. We participate and help structure financing on commercial real estate, C&I and Ag properties ranging in size from a few hundred thousand to over $100mm, and we collaborate with community bank lenders and underwriters that span the whole gamut of experience. We witness the good, the bad, the ugly, and occasionally the very bizarre in bank marketing, under
With a flat and low yield curve, borrowers’ demand for long-term fixed-rate loans is high. Furthermore, based on the forward market and most analysts’ predictions, the yield curve is expected to stay low and flat in 2020. The difference between five and ten-year loan rates is currently only nine basis points, and the difference between five and 20-year loan rates is 21 basis points.
Community banks face intense competition from different institutions and various industries. There is currently a market phenomenon that is creating an unusually challenging environment for community banks that compete for real estate financing. This phenomenon is creating an advantage for some lenders in the amount of seven to 42bps, and community banks must be aware of this aberration if they want to win more quality borrowers.
In the last few months, more than a dozen bankers have reached out to us about the merits of a fixed-rate loan program. Up until a few months ago, we didn’t know that the industry had started coining the term “fixed-rate loan program.” We always assumed that banks made loans that borrowers needed, whether fixed-rate, adjustable-rate, or some form of hybrid. Now, this seems to be a thing and we, not surprisingly, have an opinion on the matter.
You cannot read a financial paper, business feed, or watch financial television without someone mentioning yield curve flattening and inversion. Google searches for “yield curve inversion” are at their highest level ever. What is all the fuss about, and why should bankers care? We will explain an innovative way that bankers are using the current yield curve to protect existing relationships, increase yield and generate non-interest income, and we will use a recent case study to highlight the specifics loan terms and results.