U.S. banks won’t take a major hit from the decline in oil prices in the short run, but if the slump persists for a prolonged period they may start to see loan loss provisions rise, along with other impacts, suggests Fitch Ratings.
In a new report, the rating agency says that U.S. banks with higher exposures to the energy sector should be able to withstand the recent declines in energy prices in the near-term. Fitch says that banks with large energy loan books have manageable exposures to the energy sector relative to their capital positions. That said, it also notes that “negative rating momentum could occur if nonperforming loans and net charge-offs at these banks approach levels above long-term averages for energy-related lending.”
“The ultimate impact will be driven by the duration and severity of price declines, as well as the lending expertise of the banks,” it says. For instance, it says that in a scenario where oil prices remain below its assumption of $60 per barrel into the second half of 2015, Fitch says it “believes there may be some weakness in loan performance tied to energy and a potential rise in provisions for credit losses.”
Indeed, the report says that there are several factors that distinguish the current decline from oil price decline that occurred in the last recession, which raise concerns for Fitch. First, the shale oil boom has increased the number of new borrowers in the energy sector, it says. “Some new borrowers are highly leveraged and thus pose greater risks for banks,” it says.
Fitch says it is also concerned that competition for commercial and industrial (C&I) loans has been fierce, which means underwriting standards “may have become lax”.
Additionally, it says that the capital markets businesses of several of the large U.S. banks may also be impacted by the decline in energy prices. “While oil’s price volatility has some potential to be a boost to trading commissions, other points, such as energy hedge valuation swings, declines in energy-related investments, and execution risks related to loan syndications are likely to be seen over the near term, as market sentiment for energy-related issuances wanes,” it says.