Tuesday, March 04, 2008

Only the Best Customers Getting Rate Deals on Loans

The Globe and Mail, Tara Perkins, Boyd Erman, Kevin Carmichael, 4 March 2008

The rate-cutting spree by Mark Carney and Ben Bernanke isn't doing much to help Canadian consumers and corporations because banks fighting higher borrowing costs of their own are keeping the cost of money high no matter how much policy makers slash.

Despite the rash of interest rate reductions by Mr. Carney at the Bank of Canada and Mr. Bernanke at the U.S. Federal Reserve, borrowers, from first-time mortgage seekers to steady corporate customers, are finding their banks aren't passing along the full extent of the rate cuts. For some businesses facing high debt loads, rates are even rising.

The problem is that banks are paying more to borrow from investors because of concern about the financial sector. The banks are trying to hold lending rates as high as possible to preserve profit margins. For the central banks, it means that the full measure of stimulus isn't making it into the economy at large.

“The rate cuts may not be as powerful from a consumer perspective as they have [been] in the past,” said Frank Techar of Bank of Montreal's Canadian personal and commercial banking. Consumers may get off easy, he said, because competition in personal lending is so hot. Businesses aren't so lucky.

“Most of the increase in funding costs that we're all experiencing is really having an impact on the large corporate sector and the large commercial sector,” Mr. Techar said.

Roughly one-third of the banks' own financing comes from the credit market, where it has become much more expensive for them to obtain money. For example, the cost of so-called “senior deposit notes” that banks use to raise funds has soared since the credit crunch began last summer by more than a full percentage point relative to the price of Government of Canada debt, according to figures from Royal Bank of Canada.

The rest of the financing comes from deposits. Even there, banks have been forced to pay more, though the effect has been less pronounced.

“So, while the administrative rates come down, the rates at which corporations and individuals and small businesses are borrowing are not necessarily coming down, and certainly the rates at which banks are funding are not coming down as much, either,” said RBC chief executive officer Gord Nixon.

For consumers, the most tangible result is fixed-rate mortgages are not dropping as fast as central bank rates. Mortgage broker Gary Siegle reckons he will be able to find a variable-rate mortgage at about 4.75 per cent compared with a fixed-rate five-year mortgage of about 5.84 per cent. The spread, now almost a full percentage point, used to be only a quarter or a half point.

“The lenders seem to be looking for more spread,” Mr. Siegle of Invis, Canada's biggest mortgage brokerage firm. “There does seem to be a difference between what we've seen [from the central bank] and what's going on in markets today.” Most businesses are finding that rates have nudged up when looking to borrow via the bond market or directly from banks.

A Canadian Federation of Independent Business quarterly survey in December showed access to credit worsened for 13 per cent of respondents and improved for 7 per cent. “We are seeing some deterioration in access to credit for companies, but not enough to ring any alarm bells,” said Ted Mallett, CFIB's head of research.

The issue for corporations isn't a lack of available money. In fact, while corporate bond sales have slowed by about 20 per cent in Canada since July 31 when the credit crunch blew up, banks are taking advantage of the higher prices to lend more. RBC, for example, reported a 30-per-cent increase in business loans by its capital markets unit over the past six months. “For the banks that are smart, this is an excellent time to lend,” said John Aiken of Dundee Securities. “They are now getting paid for risk.”

The problem for many borrowers is banks are being selective, lending only to their best customers. “Spreads have widened and pricing has increased generally for all but the best credits, who generally don't have a liquidity problem anyway,” said one senior corporate banker. “What you've seen is a lot of lenders retreat to the investment-grade market, so some of the terms there have improved for borrowers.”

The borrowers hit hardest are those that need money most – companies that are deep in debt and facing serious liquidity problems. Traditional lenders are shunning risky loans, and hedge funds that are lenders of last resort have begun to demand “floors” on floating-rate loans to prevent their returns from falling with rate cuts.

For many troubled companies such as AbitibiBowater Inc., rates have soared so much that boards of directors find it hard to stomach. With $350-million (U.S.) of debt maturing in the next four months, Abitibi is in talks with lenders to round up more cash. It warned last month that it may not be able to find financing on “satisfactory” terms.

“It's one of those things where reality is so painful you almost don't want to acknowledge it,” said the banker.