A few articles on bank loans for housing and businesses. Are banks wisely handling their funds or is there a lot of risk out there?
Speaking of risky collateralized-loans, I just refinanced my student loan debt... Watch out!
Two articles about bank loans.
In order to keep profits up, banks have to be increasingly risky to keep making loans. At the same time, as interest rates rise, borrowers need to find lending tricks to keep up their payments.
After looking at housing prices this weekend, I understand why borrowers are so pressed to find affordable loans. Housing prices are way out of whack with salaries. Buying property today is painful! (Note: If you need these fancy loans to make your monthly payments, you cannot afford that purchase.)
New Type of Mortgage Surges in Popularity
Fixed-Rate Interest-Only Loans Offer Lower Initial Payments but Delay Debt Reduction
April 19, 2006
As rising mortgage rates drive up the costs of buying a home, consumer demand has soared for a recently introduced type of mortgage that offers the security of a fixed interest rate but with relatively low monthly payments in the loan's early years.
So-called fixed-rate interest-only mortgages allow borrowers to lock in an interest rate for the life of the loan, while reducing their monthly outlays by paying interest and no principal, typically for the first 10 or 15 years. These loans, which barely existed two years ago, now account for roughly 8% of all new residential mortgages taken out, says UBS AG, a financial services firm. Borrowers took out roughly $39 billion of these mortgages last year, up from just $7.9 billion in 2004, according to UBS, which analyzed loans that are packaged into mortgage-backed securities.
The growing demand for fixed-rate interest-only mortgages underscores the adjustments borrowers are making as mortgage rates have climbed to their highest levels in recent years and the gap between short-term and long-term interest rates has narrowed.
The fixed-rate interest-only loan is the latest in a long line of mortgage products designed to boost affordability. In recent years, borrowers have embraced interest-only adjustable-rate mortgages; option ARMs which carry teaser rates of as low as 1% but can lead to a rising loan balance; and so-called piggyback loans that allow buyers to finance up to 100% of a home's purchase price. The popularity of these offerings has helped fuel the run-up in home prices and allowed homeowners to tap the equity they had built up in their houses without boosting their monthly payments.
Lenders Push Home-Equity Deals
With Rates at 5-Year High, Banks Seek To Keep Consumers Borrowing
April 27, 2006
As rising short-term interest rates push up the cost of credit lines, many lenders are also pushing fixed-rate home-equity options. Last week, Regions Financial Corp. introduced a fixed-rate home-equity loan with a term of up to 15 years. Before that, the Birmingham, Ala., bank's fixed-rate loans required borrowers to make a balloon payment at the end of five years.
Home-equity borrowing surged in recent years as millions of Americans took advantage of low interest rates and rising home values to pay off high-cost credit-card debt and fund everything from vacations to home improvements. The growth has been fueled in particular by the rising use of home-equity lines of credit, which carry a variable interest rate and give homeowners the right to borrow up to a certain amount, either all at once or as needed over a number of years.
Yet if housing values fall, some home-equity borrowers could wind up owing more than their house is worth. And homeowners with credit lines are vulnerable to rising interest rates, which can make their monthly payments higher.
Home-equity borrowing has become increasingly important to lenders. Balances on home-equity lines of credit have climbed 71% to $543.2 billion over the last two years, according to an analysis by Equifax Inc. and Moody's Economy.com. Home-equity loans and lines of credit accounted for 10% of loans at commercial banks in the fourth quarter of 2005, up from 6.5% in 2001, and are the second-fastest-growing asset class, says Morgan Stanley analyst Betsy Graseck.
Yet growth is slowing. Total home-equity debt outstanding increased 9% in the first quarter compared with the same period a year earlier, according to Equifax and Moody's Economy.com. That's down from the first quarter of 2005, when the year-over-year growth rate was 25%.
Still, rising rates are beginning to pinch some homeowners. More than 13% of borrowers with home-equity lines have balances greater than $95,000, according to Experian Corp.; more than 23% of borrowers owe more than $65,000.
Japan's economy boomed and then bust and has taken decades to climb back into relevance. One of the big factors in Japan's bust was the banking system and the prevalence of bad loans. There were so many bad loans that if banks called them in, the entire national banking system would have collapsed.
To avoid becoming the next Japan, one needs to watch how banks are handling their money. Are they making sound loans?
Easy Money? Banks Get Lenient on Loans
Companies Hit With Fewer Terms When They Borrow Their Funds; Big Investors Chase Fat Return
April 7, 2006
When Dole Food Co. recently borrowed more than $1.3 billion, the lenders were so eager they imposed very few terms on most of the money they lined up. It was a tasty deal for the fruit-and-vegetable company, which will be able to use the fresh cash to help refinance other debt.
But some credit analysts are getting worried about loans like that one, arguing that lenders are setting the bar too low for corporate borrowers.
At issue are the performance hurdles that borrowers must clear to get and maintain loans. These hurdles are known as covenants in the business of corporate banking.
Covenants can impose a wide array of financial requirements on a borrower, such as mandating that the borrower post certain revenue or income growth, or generate a certain amount of cash for every dollar of interest it pays. When a group of lenders team up to serve a corporate customer, the "syndicated loan" might come with a list of such terms to ensure the borrower remains healthy enough to pay off the debt.
The number of covenants built into such loans is falling, especially among loans to riskier companies with below-investment-grade credit ratings, also known as "junk" ratings. This is happening even as the volume of new syndicated-loan issuance in the U.S. hit $1.5 trillion in 2005, up from $1.3 trillion in 2004, according to Reuters Loan Pricing Corp.
At the same time, many large investors, such as mutual funds or pension funds, are hungry for higher returns, and have been buying up these loans as investments in the past few years. They also crave the floating interest rates that are typically attached to the loans.
Fitch culled data from more than 6,600 loan agreements. It found that the number of covenants in an average loan package was five in 2005, compared with six in the preceding three years. Among speculative-grade loans, the number of covenants fell to six from eight. Many of these riskier loans are later packaged into bundled investments known as collateralized-loan obligations and sold to investors.
Fitch notes that more loan agreements are leaving out common covenants, such as ones requiring companies to maintain certain ratios of debt relative to the cash they generate.
