Citicorp Move May Push Big Banks to Boost Loan-Loss Reserves

Citicorp’s startling decision Tuesday to increase its loan-loss reserves by $3 billion this quarter in recognition of the dismal prospects for repayment of Third World debt is likely to increase the pressure on other major banks to take similar steps that will materially cut their earnings, bankers, economists and other professionals said Wednesday.

Many banking industry observers said the pressure would be strongest on two bank companies with large exposures to losses on Latin American loans and relatively weak operational records: BankAmerica and Manufacturers Hanover Trust. Others that may have to increase their reserves because of large outstanding loans to Brazil and other Latin American countries are Chase Manhattan Bank, Morgan Guaranty Trust Co., Bankers Trust and Chemical New York.

“This clearly will put pressure on the other banks to follow suit,” said Christine A. Bindert, a banking analyst for Shearson Lehman Bros. “All will have to take a more honest look at their balance sheets; it’s clear that Citicorp has set the pace.”

In a statement issued Wednesday through a spokesman, Manufacturers Hanover acknowledged that because of Citicorp’s action it will review “more intensely” the option of increasing its reserves.

A BankAmerica spokesman, however, said that institution considers its loan-loss reserves to be at an “appropriate” level. Remarked Donald Crowley, a San Francisco-based analyst for the investment firm of Keefe, Bruyette & Woods: “My guess is BankAmerica won’t (increase reserves) unless it becomes an industry trend.”

Others in the banking industry said the action by Citicorp, which is the largest lender to Third World countries among U.S. banks and by far the most influential negotiator for the banks, could lead to a radical change in the way such loans are valued and traded by the banking industry and the financial markets.

A more aggressive program by Citicorp of selling its Third World loans in the capital markets and of engaging in debt equity swaps to clear the loans from its books will sharply expand the trading market in those loans, allowing more banks to participate, bankers and traders said. Citicorp Chairman John S. Reed said Tuesday that the company will undertake more such maneuvers.

Citicorp’s step means that it is, in effect, prepared for $3 billion or more in losses this year from its Third World loan portfolio. By acknowledging that likelihood, bankers said, Citicorp may become far more flexible than before in considering new approaches to resolving the myriad impasses in negotiations between bankers and debtor countries.

Bankers said Citicorp has resisted other banks’ attempts to grant debtor countries relief by cutting the interest rates on their debt, in part because that would produce losses for the banks on the affected loans.

“In the past, the more heavily exposed banks (such as Citicorp) have tended not to allow other banks to take new approaches,” one East Coast banker said. “This allows them to consider alternatives in the rescheduling (renegotiation) process, because the alternatives won’t have an immediate impact on their profit statement.”

“This is a courageous act and an act of leadership,” said Charles Coltman, an executive at Philadelphia National Bank. “It provides a positive environment for future negotiations on debt.”

Citicorp, owner of Citibank and the nation’s largest bank holding company, said Tuesday that it would raise its loan-loss reserve this quarter to $5 billion, an increase of $3 billion. The move would produce a loss for the second quarter ending June 30 of $2.5 billion and a probable loss for the year of $1 billion, Reed said.

Although Reed insisted that the move was not the result of problem loans in any single country, the banking world regarded it as an acknowledgement that Citicorp may have to write off a large portion of its $4.6 billion in loans to Brazil and $5.2 billion in loans to other Latin American countries.

Brazil in February suspended interest payments on its $68 billion in foreign debt, saying that the step was necessary to preserve its foreign exchange reserves. Since then, the banks have made no progress in negotiating a settlement of the impasse. Citicorp is the largest lender among U.S. banks to Brazil and the rest of Latin America, according to figures compiled by Salomon Bros.

Citicorp’s move catapulted its loan-loss reserve ratio--the loss reserve expressed as a percentage of all loans--from 1.39%, the smallest among major American banks, to 3.7%, the largest.

BankAmerica’s ratio, until Tuesday the largest, is 3.16%. At Manufacturers Hanover, the ratio is 1.84%.

One factor that may force other banks to follow Citicorp’s lead is the reaction of the stock market, which endorsed Citicorp’s step Wednesday by raising the price of its stock to $53.125, a gain of $2.50. Among the other major banks, Manufacturers Hanover fell $1.75 to $38.50 and BankAmerica fell 25 cents to $11.

Citicorp’s stock rise and the fall of the other shares, analysts argued, suggest that the stock market has already steeled itself for losses stemming from Third World debt and would welcome a recognition by the other banks of that reality.

One beneficiary of Citicorp’s action may be the secondary trading market, in which about $6 billion in Third World bank loans is currently traded. Most of that represents loans sold by British banks, traders say.

Citicorp’s decision to sell more loans will help improve American bankers’ perception of that market as legitimate.

“It’s going to grow dramatically,” said one trader who asked to remain unidentified.

He estimated that as much as $12 billion in foreign loans could trade in that market by the end of this year.