1/18/2016 0 Comments
The macro-economic outlook is clouded by the drop in commodity prices, namely energy and metals. The recessions in energy and metals & mining could spread and become an economy-wide recession. The downturn in energy and metals & mining has already had a sizable impact on industrials and transports. The oil & gas industry alone has shed 50,000 jobs since the beginning of the oil downturn in late-2014. The energy impact could begin to reach deeper into the economy and start to impact real estate, construction, small businesses, and consumer spending. No bank reported that energy weakness was spreading broadly across the economy. PNC indicated they did see some energy weakness spreading locally. None of the banks are broadly pulling back on credit availability, but 2 banks, PNC and Wells, mentioned some impact on credit availability locally.
Banks have a unique look into the economy across all sectors through their relationships with corporations, small businesses, and consumers. Bank earnings press releases, conference calls, and 10-Qs provide a lot of information about the broader economic landscape. For example, criticized and classified loans in energy-heavy communities could be on the rise. Banks would see credit deterioration on both a broad and local basis, in local real estate markets where the oil bust hit hardest.
I took a look at the earnings of the banks who reported so far: JP Morgan (JPM), Wells Fargo (WFC), PNC (PNC), US Bancorp (USB), and Regions Financial (RF). All reported significant weakness in the energy and metal & mining sectors, and all increased loan loss reserves in these areas. Only PNC reported that weakness from the energy and metals & mining sectors has begun to spread locally into non-energy related sectors of the economy. PNC mentioned, “in Texas and other areas the energy weakness is starting to spread into real estate and other service providers locally”. PNC also mentioned they have tightened real estate underwriting standards in tech heavy and energy heavy cities, but lending spreads have not blown out like capital market spreads have. Wells mentioned a pull-back in credit from small-regional banks recently, but has not changed its own credit availability.
The table below provides the size of the banks’ loan portfolio as well as the amount of energy-related loans. JP has the largest energy exposure on a nominal and a percentage basis at 5.0%. One interesting point on JP, the additive exposure of energy, metal & mining, and agriculture is 7.6%. Regions Financial has the second largest percentage exposure at 3.9% followed by PNC, Wells, and then US Bancorp.
All 5 banks reported loan growth, and several reported an improvement in credits operating in non-energy related parts of the economy. We know the industrial sector is in recession due the weakness in commodities and China, and the strong USD. It is possible that the energy downturn is having a positive impact on the consumer-related parts of the economy. The lower energy costs definitely benefit the consumer. Therefore, cheap energy could be stimulating non-energy related sectors, such as discretionary and technology.
In general, the banks did not see broad-based problems brewing in the economy from the energy downturn. PNC did see some impact on local economies, and has tightened underwriting standards locally. Wells mentioned some pull-back in credit availability from small regional banks, but Wells did not change its own credit availability. During the remainder of this earnings season, watch the banks’ reports for an indication the energy downturn is beginning to spread. Finally, keep in mind the banks could be a vehicle to spread debt problems around. A rise in defaults or just the risk of higher defaults could cause a pull-back in credit which in turn causes more stress, potentially in sectors unrelated to energy. None of the banks indicated a broad pull-back in credit… yet.
Michael Grove, CFA