OREANDA-NEWS. US banking regulators' latest report on the Shared National Credits Program (SNC) noted an overall higher level of credit risk throughout the system in 2015, providing further evidence that overall asset quality is potentially trending weaker, says Fitch Ratings. This may lead to higher future loan-loss provisioning, which was already evidenced in third-quarter 2015 with energy-related loan-loss reserve builds.

SNC portfolio loan risk is not usually retained by US banks in its entirety. While US banks hold roughly 40% of the SNC's outstanding commitments, the majority of the credit risk continues to reside in the nonbank sector. Of the $228.4 billion in loans classified as "weak" by regulators, nonbanks held $153.0 billion, while US-domiciled banks held just $40.7 billion, and foreign bank organizations held $34.8 billion. Compared with last year's review, classified balances increased 19% while nonaccrual balances were 7% higher, with most of the deterioration attributed to the energy sector.

The credit issues highlighted in the report remain focused on leverage lending and, particularly this year, oil and energy exposures. The regulators noted that the banks are making progress in adhering to the leveraged lending guidance issued by regulators in 2013. However, there will still be weak structures cited by the regulators. While no specific grouping of US banks are identified, the sample of loans examined is skewed toward large syndicated loans originated by large banks.

The greatest impact on shared loan asset quality was oil price declines affecting exploration and production and oilfield services companies, which represent about 7% of the overall SNC portfolio. Classified oil and gas borrowers rose to $34.2 billion, representing 15.0% of total classified committed loans, up from $6.9 billion or 3.6% in 2014. The report noted that banks are taking "reasonable actions" during this stressed period.

Apart from the underlying credit picture, leveraged loan underwriting continues to reflect weaker capital structures and covenants that limit lenders' abilities to manage risks. The SNC program continues to pay special attention to highly leveraged lending at US banks where debt/EBITDA exceeds 6x. Year-to-date 2015, 36% of leveraged transactions exhibited weak structures, up from 31% last year. Among the weaknesses cited are ineffective or no covenants, liberal repayment terms and allowances for incremental debt above leverage levels at the start of loans. The reported noted that 92.2% of leveraged loans originated after June 1, 2014 included incremental borrowing provisions, an area that was drawing attention.

Leverage lending has grown over the last few years and has contributed to US loan growth. Last year, leverage loans in the SNC review pool were up 31.8%, year over year, to $1.04 trillion. Healthcare, media and telecom, finance and insurance, and materials and commodities were the top four contributors to that growth. Banks have experienced a 13.7% CAGR in outstanding loan balances since year-end 2011, which compared to 8.5% since year-end 1989.

Beginning in 2016, the regulators will change the frequency of SNC exams. Previously, SNC exams were held once a year; but next year, the large banks will undergo two onsite SNC exams. The first review will begin in February, utilizing data as of Sept. 30, 2015. The target date for the SNC review results to be sent to the participating banks will be in March of the following year. The second review will begin in August, based on first-quarter 2016 data. Fitch does not expect the more frequent examinations to produce material changes in the exam findings.