With oil prices below break-even levels for some drillers, banks are cutting credit lines and looking to diversify away from the sector.

Oil collapsed in April, with futures briefly entering negative territory. While there has been some recovery, oil continues to trade at roughly $40 a barrel, which is lower than many operators need to turn a profit. U.S. banks have responded by reconsidering their energy portfolios, tightening underwriting on new credits and using the spring redetermination process to reduce credit lines for many existing energy borrowers.

"It's a good way to loan money because it's pretty tight. Unlike a real estate loan where you make it and don't touch it again for five years, every six months they have to prove the value of their collateral or we have to reduce the borrowings," Houston-based Cadence Bancorp. Chairman and CEO Paul Murphy said in an interview.

Banks redetermine their energy portfolios twice a year by meeting with individual borrowers to evaluate performance and negotiate the size of the credit line. Of Cadence's 28 energy borrowers, most lines were redetermined at lower levels, Murphy said.

"We are seeing various amounts of stress in the portfolio, and we are seeing borrowing bases be redetermined at lower levels," Murphy said. "It's really hard to make money at these prices."

Gary Tenner, a managing director and senior research analyst with D.A. Davidson, said the most recent redetermination process was not as dire as some anticipated it would be in April when prices plunged, but he has heard of up to 30% declines in borrowing bases at some banks.

Oil prices have leveled off around $40 per barrel, but industry participants would like to see them higher. "Even with that greater comfort that oil prices have recovered, for the industry in general, $40 is not the level that would give industry participants a huge amount of comfort," Tenner said.

While some can survive at about $40 per barrel, about $50 per barrel is a more comfortable level, Murphy said.

"We need higher energy prices for there to be a healthy U.S. energy business. These are levels where most people can survive, but not all," Murphy said. "[At] $50 you're talking about a healthy industry and at $60, people would be doing well. We're a long ways from prices people can do well at."

The recent volatility is leading some banks to reconsider their appetite for future energy lending, raising uncertainty around underwriting practices, Tenner said.

"Banks that have been in the segment for a long time and have a track record are going to remain active, but given the challenges for most banks, I suspect there's going to be a decline for the overall portfolios over time," he said.

San Antonio-based Cullen/Frost Bankers Inc. plans to remain active in the energy space, but it is working to diversify its loan portfolio in order to reduce its energy exposure.

"We have been working to reduce our exposure to energy, not necessarily by not doing business with energy companies — since we're a Texas-based bank, we'll always have some oil and gas business — but by diversifying our loan portfolio more," Bill Day, senior vice president of corporate communications, wrote in an email.

Others are being more cautious about who they lend to for future energy loans.

"There is a very high bar one must clear for us to consider a new energy loan today," Murphy said. "We're not exiting the business, but we're cautious."