Fed’s Junk Loan Bubble-Busting Faces Trouble as Sales
By Craig Torres and Kristen Haunss
One of the Federal Reserve’s first post-crisis tests of its ability to quash excessive risk-taking using regulatory tools is so far looking like a failure. The Fed’s Board of Governors told Congress last week that it’s engaged in “strong supervisory follow-up” to guidance given to banks in 2013 to improve their underwriting standards for high-yield loans. Despite those efforts, Chair Janet Yellen said she’s still seeing a “marked deterioration” in quality. For the first time, more than half of the junk-rated loans arranged in the U.S. this year lack typical lender protections like limits on the amount of debt borrowers can amass relative to earnings. Yellen’s own easy-money policies are boosting demand for such high-yielding products at the same time that she tests her doctrine that financial bubbles should be constrained by supervisory actions, not a general rise in interest rates. If regulators see banks ignoring their guidance, one possible next step would be to “serve up a head on a pike,” by taking action against a specific bank as a warning to the industry, said Karen Shaw Petrou, managing partner at Federal Financial Analytics Inc., a Washington-based firm that analyzes regulation for the world’s largest banks.