Beware of Banks Bearing Gifts

Recently I have come across many Borrowers who were pleased about the low Interest Rate they are currently paying on their Commercial Property Loans.  Many of them are paying between 6.00% and 6.50% which are historically low rates, actually lower than some current home loan rates .

But these opinions completely contradict the many recent newspaper articles that  have reported claims by many members of the Business Community, of Banks passing on higher lending margins to their Business clients, to subsidise their lower margin Home Loan and Wealth Management Businesses.

So how can we have such a contrast of views from different members of the Business Community? Could it be possible that Banks really are going out of their way to offer cheap Commercial loans? If so what has inspired this benevolence from our Banks?

Generally, Commercial Loans are priced as a Bank Bill Swap Rates (BBSY or BBSW rate ) plus a margin and it is these two components that make up the actual interest rate paid by borrowers  (for simplicity we have assumed that there are no other costs associated with the interest rate charged. In reality, Banks can have many fees and charges, treasury fees, line fees etc, that can impact the actual interest rates/costs associated with a Commercial Loan). Prior to the GFC when competition was at its peak,  it was not uncommon to have clients priced at margins between 1.25% – 1.50% (many clients enjoyed much lower margins).

So taking the 30 day BBSW rate of 3.63%  on the 27th July 2012 (Australian Financial Markets Association) and assuming a borrowing rate of 6.00% per annum, we calculate that this Borrower is being charged a Margin in the vicinity of 2.37%.  From this simple calculation, we  can see that despite borrowers benefiting from what may be perceived as a Low Interest Rate,  the actual margin being charged above the BBSW, is well in excess of the pre GFC averages (by as much as 64% conservatively).  This is a substantial increase in Margin at a time when many Businesses are doing it tough. This increase in Margin has also had the effect of further intensyfying the current economic downturn by removing much of the stimulus that would have been created from a lower interest rate environment. At the same time , it  has ensured that Banks can continue to make record profits by pushing up costs to Business’s disguised behind “Low Interest Rates”.

So whilst many Borrowers may believe they are benefitting from a “Low Interest Rate”, their Banks are actually profiting from much higher Margins, justifying some of the claims of fee gauging by Banks towards their SME clients.

In finance, we refer to this as “Margin Creep” and the Banks have used this process very effectively during the current downturn in both the Home Loan (Retail Banking) and more aggressively with their Business clients. However, Business Clients have borne the brunt of these fee increases as Banks understand how difficult it can be for SME’s to refinance, making them easier targets for rate and fee increases (compared to highly transient, Retail customers who have more competition ,more options and cheaper entry and exit costs).

So next time you find yourself negotiating a Commercial Loan with your Bank, do your homework, review the current BBSW or BBSY rates and ensure the discussion focuses on your lending Margin and NOT your Interest Rate. That way you won’t give your Bank the opportunity to hide an overpriced margin behind a cheap interest rate and your facility will remain competitive over the long-term.

Should you wish to discuss any aspect of this post or any general matter, please contact me on :

Ph: 0388445555

E: con@foliofinance.com.au

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