Staying Nimble With Commercial Loan Pricing Discover How To Navigate the Complexities of Setting Commercial Loan Rates in Today’s Economic Environment Introduction In the world of commercial lending, the prime lending rate has traditionally been reserved for borrowers deemed to have the best credit quality and lowest probability of default. Credits of lesser quality are normally charged a higher rate, representing a spread over the prime rate. The prime rate is typically 300 basis points (bps) over the federal funds target rate, although many institutions have their own bank-specific prime rate. To battle inflation and reign in economic activity, the Federal Reserve has increased its target rate by 525 basis points over the last two years. The prime rate has followed the federal funds rate directly while the rest of the U.S. Treasury (UST) curve, representing market rates rather than managed rates, has also risen, but to a lesser degree. Market rates reflect investors’ long-term inflation expectations and other market dynamics, which may or may not follow changes in managed rates. During the current market cycle, these underlying interest rate changes and the stiff competition between lenders have resulted in many new loan rates being quoted at 100 bps or more below prime. Within this very challenging environment, two relevant questions emerge. Prime Minus Lending • Why are we seeing so much “prime minus” lending? • How should lenders respond to these market forces stressing their margins? By Andrew Morgan, Director — Enterprise Risk & Quantitative Consulting, FORVIS 6 West Virginia Banker
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