Shadow banks account for more than 25% of US mid-size business loans

A quarter of US mid-sized businesses with less than half a million dollars in annual revenue, and a locomotive of the US economy, are sourcing loans from shadow banks pushing out the more traditional lenders.

In 2013 main street banks provided 73 percent of middle-market loans, which is a decrease from 81 percent the year before, and the lowest share since 2006, cites Thomson Reuters data.

Non-bank lenders such as business development companies (BDC) and hedge funds have filled the vacuum which was created after a regulatory crackdown on some banks’ riskiest loans, the FT explains.

Last year the biggest banks were warned to avoid making unsafe leveraged loans the Federal Reserve and the Office of the Comptroller of the Currency were mostly concerned about. The regulators criticized 42 percent of the 496 reviewed leveraged obligors, while the overall portfolio criticized rate was 10 percent.

The term “leveraged loan” is used to describe loans to companies and individuals that already have considerable debt. This makes such loans especially risky which reflects in higher interest rates.

The Fed’s quarterly survey of loan officers says US banks had further “eased their lending policies for commercial and industrial (C&I) loans” in terms of “increased competition,” as they are forced to compete with more lightly-regulated entities.

“Some leveraged loans had been curtailed or significantly altered by the guidance, but a majority of them believed that affected borrowers would be able to turn to other sources of funding,” says the survey.

“We are hearing that banks are passing on deals that have a high chance of being criticized by regulators, especially if they are not leading the deal,” the Financial Times quotes Fran Beyers, a senior market analyst at Thomson Reuters.