Reduced bank liquidity adds to global credit concerns

Continued global credit deterioration, a threat to credit availability caused by reduced bank liquidity, and the strong possibility of a recession by the end of this year are top concerns for corporate loan managers. These concerns come on top of the ongoing challenge of rising inflation, higher interest rates and geopolitical problems, according to a member survey by the International Association of Credit Portfolio Managers.

The IACPM's survey found that in March 2023 86% of respondents expected credit default rates to rise in North America, compared to 91% in Europe and 71% in Asia who expect increased credit default rates. The current survey, calculated as a diffusion index, did not predict the scale of the defaults, but it did harken back to the IACPM's January 2023 survey, in which members also said they expected default rates to rise.

Respondents expected credit spreads to rise over the second quarter of 2023, with 58% predicting wider credit spreads on North American investment grade debt and 80% predicting spreads will widen on North American high yield debt.

The IACPM's three-month credit spread outlook index for CDX North America Investment Grade five-year debt fell to minus -48.4 in March 2023 from minus -28.9 in March 2022. Its three-month credit spread outlook index for CDX High Yield North American debt fell to minus -73.3 from minus -62.2 a year ago. 

This outlook affects the availability of credit from banks that are under constraints to reduce risk and preserve capital, with U.S. regional banks being most affected.

A March 2023 bank conditions survey by the Federal Reserve Bank of Dallas found that credit standards and terms by banks in its district have tightened along with lower loan volumes.

"We're now seeing real credit tightening especially by U.S. regional banks due to liquidity and capital concerns," Som-lok Leung, the IACPM's executive director, told ASR. "Silicon Valley Bank and Credit Suisse's failure put pressure on liquidity and capital, resulting in a reduction in lending capacity."

With U.S. regulators expected to tighten regional banks' capital requirements in the wake of Silicon Valley Bank's collapse, banks will preserve their capital by giving out fewer loans, Leung said. "This exacerbates credit volumes as firms can't roll over loans or obtain financing that they thought they were going to get previously," he said. "Smaller banks are also concerned about a flight of deposits by customers, as it's so easy to move funds by phone."

Commercial real estate may be particularly vulnerable to current market conditions. Large numbers of office workers continue to work from home putting pressure on office occupancy rates, while many property owners will eventually have to refinance in a less accommodating banking environment, Leung said.

A large majority of survey respondents expect global economies to fall into recession sometime in the foreseeable future. Eighty four percent believe a recession will occur in the U.S. sometime this year and 61% see a recession in Europe and the U.K. by year end, with another 17% believing these areas are already in a downturn.