HOUSTON – As major shale plays fuel the nation’s energy production, some aspects of Texas banking are starting to echo the overzealous oil and gas lending of the past, says David Zalman, chairman and CEO of Houston-based Prosperity Bancshares.
Loans have become very cheap for oil and gas companies, Zalman said in a recent interview with FuelFix, and some banks are offering 10-year payout terms for loans that would normally get five-year terms.
Some lenders are “stretching pricing and payout periods, and we’ve lost business because of it,” he said. “What we have seen is some of the banks are even lending money on nonproducing property. That’s where it’s becoming a bigger issue.”
Both federal and state regulators are beginning to take notice. Rumors are trickling out of the market that some banks are loosening their lending standards and extending loan lifespans to undercut their competitors. That defies a pillar of banking: Never let the term of a loan outlive the life of the collateral used to secure that loan, said Robert Bacon, deputy commissioner for the Texas Department of Banking.
“As a regulator, that’s a concern,” Bacon said. “We’re looking into it in our examinations. Good underwriting is a must.”
Regulators take notice
Bacon said the market tremors have prompted federal regulators to become more proactive in the oil and gas space. In April, the Office of the Comptroller of the Currency re-wrote its guidelines on oil and gas lending for the first time in more than 25 years.
The OCC also reported in April that oil and gas companies boosted local banks’ loan growth in regions within Texas and Oklahoma to as much as 11 percent last year, nearly three times the average rate of the agency’s nine-state southern district.
Cutting back: Big Oil comes up short in shale
In its new guidelines, the financial regulatory agency pointed out that the industry’s profitability can be volatile because of commodity price swings, and that “the industry generally poses higher credit risk than most other sectors without strong lending controls.”
“Regulators are always trying to make sure banks don’t have a concentration of risk, to make sure there are other loan types if one sector goes bad,” said Dan Bass, a managing director at Performance Trust Capital in Houston. “Everyone’s trying to gain market share. But I think regulators in general are ahead of the curve in term of looking at trends, because of what we went through” in the 2008 financial crisis.
Despite the lax loan terms from some lenders, most Texas banks are taking much less risk on the oil and gas business than they did in the lead up to the oil bust in the 1980s, said David Brooks, chairman and CEO of McKinney-based Independent Bank Group.
When banks lend to exploration and production companies, they typically tie their loans to the oil and gas a plot of land can produce. But oil and gas lending has changed over the past three decades.
In the 1980s, lenders made loans on the assumption that oil prices would rise from $50 to $80 per barrel, and would peg their loans to $70 per-barrel oil. They took huge losses when oil prices fell below $20 in the 1980s.
Today, Independent Bank and others model their loans to assume that oil prices will fall to 65 to 75 percent of their current levels. Banks then ask their clients to hedge their commodity prices to avoid market volatility.
“Lending is so much more conservative now,” Brooks said.
Regulators, he added, are concerned that some lenders will begin to offer loans that assume higher oil prices.
“They’re coming in and looking hard at Texas banks,” he said. “They want to know if you have experienced lenders and you’re conservative in the pricing assumption. They’re looking for outliers.”
Still, modern financial institutions carry the highest level of capital they’ve ever had after regulators required it in the wake of the financial crisis, a significant safeguard against any future downturns, said James D’Agostino Jr., chairman of Houston Trust Company and former chairman and CEO of Houston-based Encore Bank.
“We’ve had a long period of time where oil has remained at high level,” D’Agostino said. “That’s a concern that all bankers are focused on, but the market appears to be holding strong.”
He added Texas banks have seen activity in the oil field service sector pick up significantly this year after “a mini-recession” left service firms in search of customers amid an equipment glut. A rising rig count has brought on “some positives in the oil patch and for bankers.”
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