Shedding Bad Foreign Debt Is Good Business : Banks Have Begun Slow Process of Getting Rid of Shaky Loans to Less Developed Countries
The nation’s big banks made headlines a year ago when they set aside billions of dollars to cover troubled loans to developing countries and posted record earnings losses as a result.
In recent months, the strongest of those banks have begun to realize the gain from that pain. They have significantly reduced the level of their troubled loans to the mostly Latin American nations known collectively as LDCs--less developed countries.
Banks in California and, to a lesser extent, Chicago have led the way in shedding shaky LDC loans. The activity peaked in the second quarter of 1988.
According to a recent analysis by the New York investment firm of Salomon Bros., the four big California banks and the two biggest Chicago banks cut their LDC debt by $1.55 billion in the period that ended June 30. By comparison, the six biggest New York banks reduced their LDC debt by $884 million in the same period, Salomon said.
The Salomon figures do not mesh precisely with numbers from some banks, but data from both the investment house and the banks points to strong reductions at many major banks.
Among these big banks, however, there are differences in the amount of debt shed and in strategies for dealing with what remains a problem of enormous magnitude for U.S. banking.
The big banks are under pressure to clean up their LDC debt before more stringent international guidelines for bank capital requirements take effect in two stages, beginning in 1990 and ending in 1992. The guidelines, approved in July in Basel, Switzerland, are designed to reduce the risk to banks from borrowers defaulting on loans by requiring them to improve their balance sheets.
The guidelines will establish the first international standard for capital requirements. The required ratio of capital to capital ratios will be 3.25% in 1990 and 4% in 1992. This means that some big U.S. banks will have to raise capital and cut lending. The standards also give preference to conservative loans, such as single-family home mortgages, when calculating capital ratios, and that puts a premium on disposing of such risky items as LDC debt.
A recent study by the MAC Group, a consulting firm based in Cambridge, Mass., found that 13 of the country’s top 50 banks fall below the 1992 requirement, including BankAmerica, Wells Fargo and Security Pacific. To meet the standards, those 13 banks have to sell assets, retain earnings, raise capital by issuing new stock or take a combination of those steps, according to the study.
California banks face the added pressure of full interstate banking in 1991, which will open the state to competition and possible takeovers by out-of-state banks. Since banks with heavy LDC debts tend to have lower stock prices, an institution that has not shed substantial portions of its LDC loans might be more vulnerable to a takeover.
The nation’s most aggressive bank in reducing its LDC debt in the second quarter was Security Pacific, the nation’s sixth-largest banking company.
The Los Angeles-based bank sold $500 million worth of LDC loans and eliminated an additional $100 million through swaps for ownership interests and writing off loans as losses. The two categories decreased total LDC debt at Security Pacific by nearly 40% to $1.1 billion.
In reducing its LDC portfolio, Security Pacific said it got completely or nearly out of six or seven countries and now holds significant amounts of debt in only six. A bank spokeswoman confirmed that five of the latter countries are Mexico, Brazil, Venezuela, Argentina and Chile, but she declined to identify the other.
“Our overall strategy has been to reduce our overall aggregate exposure as well as concentrate on fewer countries,” said Robert C. Corteway, chief credit officer at Security Pacific.
Corteway said Security Pacific would continue reducing its LDC exposure, but he did not expect the numbers to reach the magnitude of those of the second quarter. He said the bank expects to remain active in the countries where it still has debt, particularly as an investment banker to corporate clients.
Wells Fargo also chopped a big chunk off its LDC debt in the second quarter, reducing the figure by $340 million to a total of $885 million. At the San Francisco-based bank, however, the strategy is different from that of Security Pacific.
“We are exiting sovereign lending, that is, lending to foreign countries,” said a spokeswoman for Wells Fargo, the nation’s 10th-largest banking company. “We have said for some time now that we are a California bank and we don’t want to be involved in areas outside our primary focus.”
Wells Fargo officials have no target date for eliminating LDC debt, and getting out of some Latin American countries is virtually impossible at this time.
To Remain Involved
At First Interstate in Los Angeles, the strategy is somewhere between Security Pacific’s and Wells Fargo’s. The nation’s eighth-largest banking company reduced its LDC exposure by $150 million in the second quarter, bringing the level down to about $800 million, the lowest of the state’s big four banks.
But First Interstate intends to remain involved in trade-related transactions focused on three countries it considers strategic--Mexico, Brazil and Venezuela. The bank will continue to hold non-trade-related debt from those countries and perhaps a few others.
“We have always said that we don’t believe we can be a major bank, including a major super-regional bank, without having an international presence. And, being a West Coast bank, that clearly implies Asia and select countries in Latin America,” said Harold J. Meyerman, head of the bank’s wholesale lending.
The bank is “comfortable” at its current level of LDC exposure, with loan-loss reserves equal to about 50% of the debt, Meyerman said.
First Interstate is virtually out of Argentina, he said, and has no plans to commit more loans to the nation, where the Peronist candidate for president is running on a platform that includes a five-year moratorium on payments on its $54 billion of foreign debt.
There is a critical difference between trade-related and non-trade loans. The troubled loans are medium-term and long-term debt in the non-trade category. These are usually loans to governments or their agencies for infrastructure projects, such as dams or highways. When the developments did not pan out, the projects did not generate any cash to repay the loans.
Trade-related debt is short-term, usually 180 days or less, and the loans are made to individual companies to finance purchases of goods from foreign manufacturers. These debts are considered a good risk by most American banks, and First Interstate is a leading trade-finance bank.
By far the biggest exposure on LDC debt in California belongs to Bank of America in San Francisco, which is in the weakest financial position to reduce the figure.
B of A Reserves Lower
The nation’s third-largest banking company reduced its overall non-trade foreign debt by $200 million to a total of $8.1 billion in the second quarter. But the $8.1 billion includes loans to foreign countries outside the LDC family, and a spokesman said the bank would not break out how much of the total or the reduction was LDC debt.
The other big California banks have a measure of flexibility in disposing of LDC debt because reserves are at 50% and above. That means they can sell the loans at a loss against the reserves or write off some loans as losses.
But B of A’s reserve level is about 20% and, although earnings are improving, there is not much leeway for reducing LDC debt.
Although its chief executive, A. W. Clausen, said recently that the bank would meet the 1990 interim figure this year or next, Bank of America remains financially fragile and a deterioration in the LDC arena would be a tremendous blow to its recovery effort.
“By far the biggest risk at B of A is the international debt exposure,” said Raphael Soifer, an industry analyst at the New York investment firm of Brown Bros., Harriman & Co. “All they can do about it is tough it out.”
Three New York banks, Manufacturers Hanover, Chase Manhattan and Chemical, were also slow in reducing their LDC debt. The nation’s biggest bank, New York’s Citicorp, reduced its LDC debt by $400 million, bringing its total reduction for the year to $2 billion, according to Salomon Bros.
Among the Chicago banks, Salomon Bros. said First Chicago reduced LDC exposure by $350 million in the second quarter and Continental Illinois by $75 million.
