Fitch: U.S. Banks Face Risks if LBO, M&A Waves Build
CHICAGO -- March 5, 2013
Tentative signs of a pickup in large leveraged buyout and M&A transactions,
financed in large part by leveraged loans, may boost fee revenues for major
U.S. banks in the first quarter, but Fitch sees the potential for any
sustained rise in deal activity to increase balance-sheet risk for major U.S.
banks in the process.
Although the impact of large-scale leveraged transactions on advisory fee and
underwriting revenues will be positive during the first quarter, we recognize
that banks may be assuming more risk on their balance sheets -- both as a
result of much larger deal size and higher debt-to-EBITDA multiples in some
recent leveraged transactions.
The foundation for an eventual increase in LBO and M&A activity has been laid,
even in a slow-growth economic environment. U.S. corporate cash positions are
very healthy, and a wave of refinancing activity by firms has increased the
amount of cash available for acquisitions. In addition, private equity firms
have ample dry powder (committed but unused capital) to put to work in
leveraged deals. Interest rates and credit spreads remain quite low, making
deal financing costs very attractive versus historical norms.
In our view, the sheer size of available buyout capital held by private equity
firms (estimated at $342 billion by data provider Preqin), points to the
potential for a surge in leveraged deal activity over the next few years,
assuming global macro conditions improve.
Large U.S. banks, with balance sheets fortified, now have ample lending
capacity, and they are likely to look more favorably on participation in
deals. In doing so, however, they may retain more risk on their balance sheets
and run the risk that any rapid rise in interest rates and credit spreads will
limit their ability to sell down risk and syndicate loans. Large exposure to
leveraged credit caused problems for many banks, when liquidity evaporated in
the latter part of 2007 and 2008. While current exposures fall far short of
precrisis heights, growth in leveraged loan books nonetheless represents a
risk that could grow in importance over time.
Recently announced LBOs, such as the Dell and Heinz transactions, are being
financed principally with leveraged loans that can be syndicated easily in the
currently benign credit environment, reflecting healthy demand for floating
rate obligations at a time when many lenders and investors are growing
increasingly wary of interest rate risk in a rising rate scenario. In Europe,
Liberty Media's bid for Virgin Media is also being financed through a
combination of leveraged loans and high-yield bonds.
Still healthy high-yield bond issuance this quarter, along with the pickup in
leveraged loan activity, will likely drive positive investment banking revenue
comparisons for all of the large deal-making banks in Q1.
In addition, trading revenues will likely benefit from the favorable
fixed-income environment, combined with an upswing in equity trading volumes
(barring any macro issues or unforeseen problems in the last month of the
The above article originally appeared as a post on the Fitch Wire credit
market commentary page. The original article can be accessed at
www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
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Joseph Scott, +1 212 908-0624
Bill Warlick, +1 312 368-3141
70 W. Madison
Chicago, IL 60602
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