The ARC Program is a loan hedging platform that was custom-built for community banks and their borrowers. The program offers simplicity, ease of use, and documentation and accounting advantages that can make community banks more competitive than their national or regional competitors.
An interest rate swap is an exchange of cash flows between an entity that pays a fixed rate and a second entity that pays multiple short-term rates. At the inception of the swap, both parties expect to receive and pay equivalent economic value. The swap rate is determined by the markets’ expectation of where short-term rates will be over the swap’s life. Swaps can provide the borrower a fixed-rate loan, while the bank earns a floating interest rate.
Borrowers routinely use interest rate hedges because it allows them to lock in certainty of interest rates for longer periods, help stabilize cash flows, lock in future advance rates, provide portability and preserve future funding stability, and it can reduce the borrower’s cost of financing.
National and super-regional banks have routinely hedged loans for many sound reasons. Community banks have also recently started incorporating loan hedging programs to reduce risk and increase income. Loan hedges help to reduce interest rate and credit risks, meet borrower demand, generate non-interest income, protect existing relationships from competitors, increase cross-sell opportunities, and respond to competitive pressures.
The ARC Program delivers all of the benefits of a typical swap program used by national banks, which includes the following: ability to generate a fee income, hedge portability, forward starting hedges, reduced interest rate risk, extended relationship value, and decreased prepayment speeds. However, the ARC program offers the following benefits for community banks and their borrowers: no hedge accounting and no derivatives for the bank, no call report for derivatives, no capital allocation for derivatives, no Dodd-Frank reporting, and no ISDA documentation, and the program is available for loans as small as $250k
We have created various materials to help borrowers and lenders understand the prepayment provision, including videos, print, and excel calculators. However, there is no substitute for one-on-one discussions and examples. Our specialists can explain the prepayment provision in a simple and interactive way in person, via Webex, or by phone. The prepayment provision works as follows: the borrower enters into a fixed rate payment obligation for the term they desire (up to 20 years); if they want to port the loan/hedge rate to new collateral, there is no prepayment consequence, however, if they do not want to retain the loan/hedge for any reason to the stated maturity then if rates are higher at the time of prepayment, the borrower receives a fee to unwind the hedge, and if rates are lower at the time of prepayment then the borrower pays a fee to unwind the hedge.
The notable advantage of the ARC Program is that it offers an option that no other loan program can – the ability of the borrower (with the lender’s consent) to transfer the loan and hedge to a new project, secured by any acceptable collateral, and even substitute a new borrower (again with the lender’s consent). This powerful feature reduces borrower prepayments, increases loan marketability, and makes loans more profitable to the bank because banks can increase the lifetime value of the relationship and cross-sell more products.
Any bank that is well-capitalized can use the ARC program. There are no lengthy agreements to sign, no minimum volume to maintain, and no exclusivity with the program. Banks can use the ARC Program for one or hundreds of loans. Banks can discontinue using the program when the business environment is not suitable for use. There are no fees or ongoing reporting or accounting requirements. The ARC Program is the simplest and easiest way for community banks to deliver hedging solutions to their business customers.
An ARC user must be a commercial borrower, demonstrate at least $1mm in net worth, and typically collateralize the loan with real estate collateral. Eligible collateral is cash-producing real estate and includes agricultural land, CRE, multifamily, or any other business with real estate as collateral (certain exceptions apply, such as cannabis business, adult entertainment, public golf courses, and municipal entities).
We make the ARC Program easy to use and easy to learn. Reach out to us at ARC@southstatebank.com or learn more about the program here: https://southstatecorrespondent.com/loan-hedging/