Rise of ‘shadow banking’ brings new financial risks, experts say

A spate of recent fraud cases and bankruptcies has raised new concerns about a growing class of largely unregulated loans, with a sell-off in U.S. banking stocks bleeding into global markets this week.

A pair of regional banks this week disclosed lawsuits involving allegedly fraudulent business loans, while the failure of two companies in the automotive sector dinged some Wall Street titans, including JPMorgan.

All four cases reflect the growth of major banks’ lending to so-called non-depository financial institutions, said Chris Marinac, an analyst with the financial advisory firm Janney Montgomery Scott. Also referred to as “private credit” or “shadow banking,” it’s an example of larger, regulated banks offering loans to private companies that in many cases have a higher credit risk and little or no repayment history, Marinac said.

A recent rush of cash into private credit has lowered standards, leaving investors exposed, some analysts warn.

“The overall trend here is that in the search for yield … there has been a lack of care around underwriting standards,” said Corey Frayer, director of investor protection at the Consumer Federation of America.

Utah-based Zions Bank disclosed Wednesday that it lost some $50 million on two commercial and industrial loans because of “apparent misrepresentations and contractual defaults” with respect to loans it made and related collateral. It also filed a lawsuit in California against several unnamed people who had guaranteed the loans. It called the incidents of alleged fraud an “isolated situation” but promised to conduct an independent investigation.

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