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The $2 Trillion Stimulus Bill Just Gave the Banking Sector Lots of Regulatory Relief

By Bram Berkowitz - Updated Apr 2, 2020 at 8:17AM

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Breaks include a delay in new credit-loss rules, a boost in SBA lending, increased FDIC insurance, and much more.

The coronavirus pandemic has resulted in a huge sell-off of the banking sector. Panicked investors are bracing for widespread credit issues if large swaths of businesses and homeowners can't make their loan payments. But I think that's an overreaction. Banks today are well-capitalized, unlike in the Great Recession; they're receiving lots of help from the Federal Reserve, and they keep getting regulatory relief that will make their lives easier in the short term.

The latest package of breaks comes from the $2 trillion stimulus bill that Congress recently passed to help businesses and Americans hit hard from the pandemic. Here are several of the breaks that should help bank stocks immediately.

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New credit loss rule delayed

Technically, the Federal Reserve delayed the impact of the current expected credit loss (CECL) accounting method just before the stimulus passed, but the stimulus bill would have delayed the rule. Years in the making, CECL would have required banks to forecast losses on the life of a loan as soon as that loan was originated. Typically, banks only record losses on a loan if they have reason to believe there will actually be losses -- and no bank ever expects a brand-new loan to result in a loss. As a result of CECL, some banks were looking at significant increases on loan reserves and a reduction in equity capital, which would hurt their profits. The delay allows banks, if they so choose, to put off the impact of CECL for two more years and phase in the entire impact five years from now if they want.

Boost in SBA lending

The stimulus also set aside nearly $350 billion to fully -- as in 100% -- guarantee loans to small businesses through the U.S. Small Business Administration. Most of this new funding authority will largely be disbursed through the SBA's 7(a) loan program, a massive win for banks. There are roughly 1,800 preferred SBA lenders, many of which are banks, that have the infrastructure in place and are already originating hundreds of millions in SBA 7(a) loan volume annually. Supposedly, other banks that are not SBA preferred lenders will be allowed to make these loans as well. Although the maximum interest rate on these loans is only 4% and there is a loan forgiveness component baked into the legislation, the stimulus will allow banks to make 7(a) loans up to $10 million, which is double the maximum amount banks could make under the 7(a) program previously. These loans could also help banks pick up a ton of new business down the line.

Enhanced FDIC deposit insurance

Standard insurance for bank customers "is $250,000 per depositor, per insured bank, for each account ownership category," according to the Federal Deposit Insurance Corp. But the stimulus enables the FDIC to temporarily insure bank issued debt and non-interest-bearing deposits, which include standard checking accounts, in excess of $250,000, with no limit. That should boost confidence in the industry.

Relief on troubled debt restructuring

Banks will also get a nice accounting break on troubled debt restructuring (TDR), a category on the balance sheet that shows loans that were modified in order to provide relief to struggling borrowers. Higher amounts of TDRs concern investors and analysts because that suggests credit problems on the horizon. The stimulus states that banks will not have to classify modified loans due to the coronavirus as TDRs if the loan modification is made between March 1 and 60 days after the end of the COVID-19 national emergency, but only if the loan was not more than 30 days past due as of Dec. 31, 2019. I do have some specific questions about this provision. It may help banks conceal some of their potential loan deferments, but then how will analysts and investors know how exposed a bank is to the virus outbreak? Although many of the borrowers are financially stable in normal times, we still do not know what the other side of this pandemic fully looks like. Hopefully, banks will provide some of that information, but there will still be uncertainty about credit quality.

Reducing community bank leverage ratio

Banks capitalized under $10 billion are getting a nice break on the amount of capital they have to hold, because the stimulus reduces the leverage ratio requirement from 9% to 8%. The leverage ratio specifically measures the core capital of a bank relative to its total assets. In theory, the more capital a bank holds, the safer it is, because it has more of a cushion against faulty loans. But banks that hold less capital are typically more profitable, because instead of letting capital sit lazy and make no return, they can take that capital and lend or invest it, which brings in income via the interest they earn on loans or through gains on securities.

Weathering the storm

It is certainly not crazy for investors to be concerned about the banking industry, given that many existing borrowers may have to defer loan payments, and considering the effect social distancing is having on the economy. But I do think beefed-up regulations on the banking sector after the financial crisis, and the Fed's knowledge gained from the crisis, have made this industry much safer. Now, with all of these short-term breaks from the stimulus and the Fed, I think these breaks will help the banking sector get through this tough economic time and get back to record highs after the public health crisis has been resolved. 

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