A select group of banks may want to consider writing a thank-you note to Dick Fuld.
Why? The September 2008 failure of Lehman Brothers under Fuld's leadership, and the related collapse of the original money market fund, ultimately prompted new rules governing money funds that are set to take effect in October.
Those rules have contributed to a sharp rise in the benchmark Libor rate, which tracks how much banks charge to lend each other money. And a higher Libor rate is a good thing for banks that meet a certain profile.
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The winners are predominantly banks with large portfolios of commercial-and-industrial loans that carry variable rates tied to Libor. However, these banks must also have a low-cost source of funds, typically core deposits, and have few rate hedges that undercut the benefit of a higher Libor.
The losers are lenders whose loan books primarily carry fixed-rate loans or prime-based, floating-rate loans.
For institutions like the $5.4 billion-asset 1st Source Bank in South Bend, Ind., and the $23 billion-asset Hancock Holding in Gulfport, Miss., the upward trajectory of Libor is welcome.
Hancock will realize a "pretty significant" benefit, Chief Financial Officer Michael Achary said.
Bankers and analysts attribute the rise in the London interbank offered rate, commonly called Libor, to two things: new Securities and Exchange Commission rules for money funds that kick in on Oct. 14, and to the complexities of short-term securities markets. The rules preclude prime money market funds from buying corporate debt. That change forces non-U.S. banks needing to raise dollars to seek funding in other markets, necessitating them to take interest-rate hedges that tend to push Libor higher.
The three-month Libor rate has risen from about 62 basis points at the beginning of the year, to about 82 basis points as of Aug. 10, according to the Federal Reserve Bank of St. Louis. The rise has been most dramatic since early July, when the rate still stood at 66 basis points.
Most of the various Libor rates have risen, but shorter-term Libor rates have the most effect on banks. That is because banks with one-month or three-month Libor-tied loans can reprice the loans now and enjoy the higher profit margin. If Libor retreats in October when the rules take effect, the ability to enjoy the repricing may disappear.
At 1st Source, for example, about 17% of its book of variable-rate loans reprices daily and 66% reprices monthly, said Chris Murphy, the chairman and chief executive. And almost half of its entire $4.2 billion loan book consists of variable loans, many of which are tied to Libor.
"We do get a benefit on the Libor side when Libor goes up," Murphy said.
It also helps 1st Source that the large majority of its funding comes from core deposits that are not tied to Libor.
About 53% of Hancock's $16 billion loan book was floating-rate as of June 30, Achary said. More than half of its floating-rate loans are pegged to Libor. Additionally, Hancock has "almost nothing on the liability side of the balance sheet that's tied to Libor," he said.
While the situation could produce a very nice boost to Hancock's profit, the company has not provided guidance on its earnings per share or net interest margin, Achary said.
Commercial-loan-oriented banks like 1st Source and Hancock are more likely to be helped by the Libor surge than banks with large portfolios of consumer loans, which typically are tied to prime or fixed rates. However, a lot depends on how a bank's individual loans are structured.
A little more than half of loans at the $71 billion-asset Comerica were commercial and industrial as of June 30. And about 70% of its total $50 billion loan portfolio is Libor-based. Not surprisingly, the Dallas company has seen improved results and expects more good news if Libor remains high.
The "largest factor" in Comerica's 3% increase in net interest income in the first quarter "was a benefit from higher Libor," Karen Parkhill, the bank's then-CFO, said in an April 19 conference call. Comerica did not cite the impact of Libor on its second-quarter results.
Other banks with more diversified loan portfolios have also said Libor has helped results. The $141 billion-asset Fifth Third Bancorp in Cincinnati has a large portion of its loan portfolio in residential mortgages and auto loans. But it also has a little more than a third of its loans in the commercial category, and between 80% and 85% of those are Libor-based floating loans, CFO Tayfun Tuzun said on June 1 at the Deutsche Bank Global Financial Services Conference.
"We benefit greatly on the asset side from a Libor pickup," Tuzun said.
About three-quarters of the $7.2 billion loan book at Cadence Bank in Houston are floating-rate loans, and a large majority of the loans are tied to Libor, said Tell Alessio, the bank's treasurer. But the $9.2 billion-asset Cadence uses swaps to hedge its interest rate risk, and the swaps will cancel out some of the benefits of a higher Libor.
The higher Libor rate is still a good thing for Cadence, Alessio said.
"Since we're an asset-sensitive bank, we do benefit from higher rates," he said. "We should see an increase in margin."
Although opinions are mixed about whether the new, higher Libor is here to stay, Murphy said he believes it is a permanent change because the new SEC rules make it less attractive for money market funds to buy commercial paper.
"Those money market funds were buying commercial paper at a much lower rate," Murphy said. "With those funds gone, the only place you can go and be sure of not breaking the buck is to invest in governments."
