“Moody’s Investors Service, the ratings agency, said in a report last week that many states ‘are increasingly pushing down their problems to their local governments.’ The Moody’s report warned that this would be “the toughest year for local governments since the economic downturn began.” (See “States Pass Budget Pain to Cities,” http://www.nytimes.com/2011/03/24/us/24cities.html?hp.)
“The state budget squeeze is fast becoming a city budget squeeze, as struggling states around the nation plan deep cuts in aid to cities and local governments that will almost certainly result in more service cuts, layoffs and local tax increases.”
Homes, over the last fifty years, served as the piggy-bank for the middle classes and the working classes as the rising price of houses during this time served as the major source for these people to increase their wealth. We are learning more and more that the inflated values of land and commercial real estate and the growing wealth of these classes also served as a piggy-bank for other sectors of the economy, such as state and local governments.
And, this piggy-bank was the source for increasing employment, rising wages, and other benefits in the public sectors of the economy.
Now the piggy-bank is broken and state and local governments are feeling the pain as have home owners, small commercial banks and small businesses over the past three years. (See my post http://seekingalpha.com/article/259867-banking-and-real-estate-the-problems-are-still-there.)
People are learning that those that “live” by inflation, “suffer” by deflation.
Ben Bernanke and the Federal Reserve are trying as hard as they can to create inflation once again so as to preserve the banking system, the housing market, and, now, state and local governments.
The economy, however, may not be responding as the Fed might want it to.
In a real sense there are two economies. There are the better off, those that benefitted from the credit inflation of the last fifty years, the people that learned how to use inflation and who have the resources to protect themselves against changes in prices. Then there are the others, those who can’t protect themselves from changing prices.
One result of this is that the income distribution in the United States is skewed more toward the wealthy than ever before in the history of the country.
The history: in the early 1960s, there were many intellectuals and policy makers who believed that inflation was beneficial to the worker because a little inflation was not a bad trade off for higher levels of employment. This trade off was captured in something called the Phillips Curve.
Although the Phillips Curve was intellectually contested by the end of the 1960s, the myth of the Phillips Curve lived on in many official circles and some still believe in it to this day.
Yet, the credit inflation that was supposed to be a ‘boon’ to the blue-collar worker and the middle class resulted in a withering of American manufacturing capability in steel, autos, and then other industries. It resulted in substantial amounts of under-employment for working age people. It decimated the housing industry. It has made many of the smaller commercial banks in the United States insolvent. And, it has now bankrupt the American system of local government.
We have had a bailout of the steel industry. We have had two bailouts of the auto industry. Labor unions in the manufacturing industries are so week that union leaders are now training people to go into other countries and build up labor unions there. We have had a bailout of the banking industry. We are now going through a workout and possible bailout of state and local governments.
Labor unions in the public sector, teachers unions, are now acting in much the same way as did the auto unions and the steel unions before them, as the economic base for their benefits have faded away.
People and organizations can only live beyond their means for so long and credit inflation can create the “good days” for only so long. And, when the good days are over, people must return to a more controlled and disciplined life style. The pain of the ‘return’ is not easy to bear.
The efforts by Mr. Bernanke and the Federal Reserve to create another round of credit inflation is, unfortunately, producing a further bifurcation of American society.
While the middle class and the blue collar workers continue to suffer and continue to restructure their budgets and balance sheets, those who have more are taking advantage of the Federal Reserve’s actions to further strengthen their position.
Large commercial banks are bigger than they were when they were “too big to fail” in 2008. Payrolls and bonuses at financial institutions are exceeding earlier years.
Large corporations are sitting on “tons” of cash and possess immense borrowing power at miniscule interest rates. And, we see one large merger taking place here and another large merger taking place there: AT&T and T-Mobile; Deutsche Bőrse and the NYSE Euronext; Warren Buffet and Lubrizol, and Caterpillar and Bucyrus. The projection is for more of this to take place in America...and in the world.
And, the wealthy? Consumer spending is picking up but the strength is not at the lower end of the value chain. Manufacturing is picking up but for higher end goods. Overall, the pickup is just modest because it is not supported throughout the income spectrum.
I raised the question earlier, in such an environment “Will the Financial Industry Dance Alone?” (http://seekingalpha.com/article/255748-will-the-financial-industry-dance-alone) The answer to this question seems to be “No, the financial industry will not dance alone. Big corporations will dance along too as will the wealthy.” There was concern in the 2000s that the benefits of the economic growth at that time were not spread evenly throughout the economy.
My feeling is that you haven’t seen anything yet.
The efforts by the Federal Reserve to inflate the economy are not going to be spread evenly throughout the economy. State and local governments are going to have to re-structure and downsize. The people in these bodies are going to have to lower their expectations as well as the people that have been served by them.
Similar to the situation with the smaller banks, one hopes to get through this adjustment period without major disturbances. That is, government officials and regulators are working overtime to keep a lid on things so that insolvencies and bankruptcies do not overwhelm the system. The efforts to contain these problems seem to be having some success. Ever Meredith Whitney, the financial analyst who predicted massive defaults in the municipal bond area still contends that there will be a large number of defaults although not as many as she first feared.
Still, things are changing and will my guess is that in many areas of the society we will not return to the “plush” years experienced in the last half of the twentieth century.
Showing posts with label smaller banks. Show all posts
Showing posts with label smaller banks. Show all posts
Thursday, March 24, 2011
Friday, January 21, 2011
Banking is Changing: Look Out for the Opportunities
Banking is changing. I have argued this case for a long time. The number of banks in the banking industry is declining. A year ago or so we had over 8,000 commercial banks in the banking industry and several thousand organizations called thrift institutions. Now, we have less than 7,800 in the banking system and the thrift industry is legacy. My guess is that over the next five years, the number of commercial banks will drop below 4,000. This, of course, does not consider the credit unions and the increasing role they play in financial services.
The largest 25 commercial banks in the banking system hold about two-thirds of the assets of domestically chartered banks in the banking system. These banks hold over 57% of all the banking assets in the United States. Foreign-related financial institutions hold almost 13% of all banking assets in the United States. Thus, the biggest 25 domestically chartered banks in the United States banking system plus foreign-related financial institutions in the United States hold 70% of all banking assets.
This means that the average size of commercial banks not included in the largest 25 banks is a little more than $450 million. This means that there are a lot of very, very small banks “out there.”
What if the 25 largest banks in the United States plus foreign-related financial institutions move up to 80% of the total banking assets in the United States which I believe will happen? If the banking system drops to below 4,000 banks and, just to build an estimate, the asset size of the banking system doesn’t grow, then the smaller banks in the banking system will average right around $600 million.
The only conclusion that one can draw from the assumptions I am working with is that the big banks are going to get bigger, foreign banks are going to play a larger role in the United States banking industry (See “Japan’ No. 1 Bank on Prowl,” http://professional.wsj.com/article/SB10001424052748704881304576093630151255362.html?mod=ITP_moneyandinvesting_2&mg=reno-wsj), and the smaller banks are going to get bigger.
Given this scenario the question becomes “How are commercial banks going to change?”
I would like to call your attention to a book I reviewed back in August by Leo Tilman, “Financial Darwinism,” (http://seekingalpha.com/article/221607-making-money-in-the-21st-century-financial-darwinism-create-value-or-self-destruct-in-a-world-of-risk-by-leo-tilman). The book is subtitled “Create Value or Self-Destruct in a World of Risk.”
One distinction Tilman makes in his book is between the “static” model of financial management and the “dynamic” model that incorporates a totally different risk-management perspective.
The general “mode of operation” of institutions existing within a “static” framework is akin to the “carry trade.” Simply, the “carry trade” can be defined living off the differential returns between assets and liabilities. Because of the “local monopolies” that commercial banks historically operated in that were controlled and regulated by the banking authorities, commercial banks could engage in “balance sheet arbitrage” and earn a very good living. (Lend at 6%, borrow at 2%, and be on the golf course by 4:00.)
As the local monopolies broke up in the 1970s and 1980s and the Net Interest Margins of banks began to decline, commercial banks started concentrating on fee income to keep returns up. But, this only worked for so long. As a consequence, Tilman argues, financial institutions, particularly the larger ones, began moving into “Principal Investments” and “Systematic Risks.”
Principal Investments (primarily “alpha” type of investments) include private equity funds and venture capital investments, proprietary trading, hedge fund activity and other forms of investment in financial instruments, products, and tools. Decisions were generally made at executive levels, but were decentralized with risk only being considered within a specific silo.
Examples of Systematic Risks (“Beta” type of investments) include operating in markets where the organization were exposed to interest rate risk, credit risk, mortgage prepayment risk, commodity risk, currency risk and so forth. Again, these efforts tended to be compartmentalized.
Even for the bigger institutions these latter movements were not aggregated and integrated: risk management in these financial institutions remained “static” even though the world became “dynamic.”
For the smaller commercial banks that moved in this latter direction, they tended not to know what they were doing. In doing bank turnarounds, it always amazed me the number of managements that felt they could deal with the most sophisticated financial instruments available, yet couldn’t manage their own “balance sheet arbitrage.” Moving into areas that were not based on “traditional” banking models only exposed these smaller banks to disaster as markets collapsed and they descended into insolvency.
The bigger banks have learned a very costly lesson relative to risk management. This is what Tilman’s book is all about. Within the dynamic world of modern finance, commercial banks are not going to be able to live off of “balance sheet arbitrage” alone. More and more these bigger banks are going to build portfolios of “Principal Investments” and investments with “Systematic Risks.” But, they are going to integrate and manage their risks differently. And, the management of these risks are going to be world-wide as the United States banks take on more of a global presence and as foreign-related financial institutions become more prominent in the United States. (http://seekingalpha.com/article/247734-u-s-financial-regulations-are-making-the-institutions-and-markets-irrelevant)
One major differentiator of performance in large banks is going to be tied to the ability of top management to manage the risk of their multi-structured institutions. This is one of the reasons why Jamie Dimon and JPMorgan, Chase & Company supposedly got through the recent financial collapse as well as they did. (http://seekingalpha.com/article/148179-book-review-the-house-of-dimon-by-patricia-crisafulli)
Smaller banks, however, are not going to be able to operate in these areas requiring a sophisticated understanding of how these risks are managed but also require a very sophistication management team to manage them. The smaller banks are going to have to find out how they can become better at “balance sheet arbitrage” and build up an expertise in these areas so as to “out-execute” rivals. This will be their way to “raise the bar.”
The other major differentiator will be the control of expenses: this will have to do with the structure of the branching system and number of bank personnel. It is embarrassing to walk into sizeable bank branches these days and see five employees of the bank and maybe two or three customers. I don’t remember walking into a bank recently where this was not the case.
Furthermore, commercial banks are way over-staffed in their back offices. Managements have not really dealt with this issue in recent years because they have either been “dancing to the music” or had major solvency proglems to deal with. But, now attention is starting to be paid to the excessively high expense ratios that exist within banking. (http://professional.wsj.com/article/SB10001424052748703921504576094431636101722.html?mod=ITP_moneyandinvesting_0&mg=reno-wsj)
One way the banks are going to change in this area is in their use of information technology. (http://seekingalpha.com/article/225773-the-new-world-order-smaller-and-faster-part-2) I plan to spend more time on this in the future and will also be spending more time discussing banks that are changing.
The largest 25 commercial banks in the banking system hold about two-thirds of the assets of domestically chartered banks in the banking system. These banks hold over 57% of all the banking assets in the United States. Foreign-related financial institutions hold almost 13% of all banking assets in the United States. Thus, the biggest 25 domestically chartered banks in the United States banking system plus foreign-related financial institutions in the United States hold 70% of all banking assets.
This means that the average size of commercial banks not included in the largest 25 banks is a little more than $450 million. This means that there are a lot of very, very small banks “out there.”
What if the 25 largest banks in the United States plus foreign-related financial institutions move up to 80% of the total banking assets in the United States which I believe will happen? If the banking system drops to below 4,000 banks and, just to build an estimate, the asset size of the banking system doesn’t grow, then the smaller banks in the banking system will average right around $600 million.
The only conclusion that one can draw from the assumptions I am working with is that the big banks are going to get bigger, foreign banks are going to play a larger role in the United States banking industry (See “Japan’ No. 1 Bank on Prowl,” http://professional.wsj.com/article/SB10001424052748704881304576093630151255362.html?mod=ITP_moneyandinvesting_2&mg=reno-wsj), and the smaller banks are going to get bigger.
Given this scenario the question becomes “How are commercial banks going to change?”
I would like to call your attention to a book I reviewed back in August by Leo Tilman, “Financial Darwinism,” (http://seekingalpha.com/article/221607-making-money-in-the-21st-century-financial-darwinism-create-value-or-self-destruct-in-a-world-of-risk-by-leo-tilman). The book is subtitled “Create Value or Self-Destruct in a World of Risk.”
One distinction Tilman makes in his book is between the “static” model of financial management and the “dynamic” model that incorporates a totally different risk-management perspective.
The general “mode of operation” of institutions existing within a “static” framework is akin to the “carry trade.” Simply, the “carry trade” can be defined living off the differential returns between assets and liabilities. Because of the “local monopolies” that commercial banks historically operated in that were controlled and regulated by the banking authorities, commercial banks could engage in “balance sheet arbitrage” and earn a very good living. (Lend at 6%, borrow at 2%, and be on the golf course by 4:00.)
As the local monopolies broke up in the 1970s and 1980s and the Net Interest Margins of banks began to decline, commercial banks started concentrating on fee income to keep returns up. But, this only worked for so long. As a consequence, Tilman argues, financial institutions, particularly the larger ones, began moving into “Principal Investments” and “Systematic Risks.”
Principal Investments (primarily “alpha” type of investments) include private equity funds and venture capital investments, proprietary trading, hedge fund activity and other forms of investment in financial instruments, products, and tools. Decisions were generally made at executive levels, but were decentralized with risk only being considered within a specific silo.
Examples of Systematic Risks (“Beta” type of investments) include operating in markets where the organization were exposed to interest rate risk, credit risk, mortgage prepayment risk, commodity risk, currency risk and so forth. Again, these efforts tended to be compartmentalized.
Even for the bigger institutions these latter movements were not aggregated and integrated: risk management in these financial institutions remained “static” even though the world became “dynamic.”
For the smaller commercial banks that moved in this latter direction, they tended not to know what they were doing. In doing bank turnarounds, it always amazed me the number of managements that felt they could deal with the most sophisticated financial instruments available, yet couldn’t manage their own “balance sheet arbitrage.” Moving into areas that were not based on “traditional” banking models only exposed these smaller banks to disaster as markets collapsed and they descended into insolvency.
The bigger banks have learned a very costly lesson relative to risk management. This is what Tilman’s book is all about. Within the dynamic world of modern finance, commercial banks are not going to be able to live off of “balance sheet arbitrage” alone. More and more these bigger banks are going to build portfolios of “Principal Investments” and investments with “Systematic Risks.” But, they are going to integrate and manage their risks differently. And, the management of these risks are going to be world-wide as the United States banks take on more of a global presence and as foreign-related financial institutions become more prominent in the United States. (http://seekingalpha.com/article/247734-u-s-financial-regulations-are-making-the-institutions-and-markets-irrelevant)
One major differentiator of performance in large banks is going to be tied to the ability of top management to manage the risk of their multi-structured institutions. This is one of the reasons why Jamie Dimon and JPMorgan, Chase & Company supposedly got through the recent financial collapse as well as they did. (http://seekingalpha.com/article/148179-book-review-the-house-of-dimon-by-patricia-crisafulli)
Smaller banks, however, are not going to be able to operate in these areas requiring a sophisticated understanding of how these risks are managed but also require a very sophistication management team to manage them. The smaller banks are going to have to find out how they can become better at “balance sheet arbitrage” and build up an expertise in these areas so as to “out-execute” rivals. This will be their way to “raise the bar.”
The other major differentiator will be the control of expenses: this will have to do with the structure of the branching system and number of bank personnel. It is embarrassing to walk into sizeable bank branches these days and see five employees of the bank and maybe two or three customers. I don’t remember walking into a bank recently where this was not the case.
Furthermore, commercial banks are way over-staffed in their back offices. Managements have not really dealt with this issue in recent years because they have either been “dancing to the music” or had major solvency proglems to deal with. But, now attention is starting to be paid to the excessively high expense ratios that exist within banking. (http://professional.wsj.com/article/SB10001424052748703921504576094431636101722.html?mod=ITP_moneyandinvesting_0&mg=reno-wsj)
One way the banks are going to change in this area is in their use of information technology. (http://seekingalpha.com/article/225773-the-new-world-order-smaller-and-faster-part-2) I plan to spend more time on this in the future and will also be spending more time discussing banks that are changing.
Thursday, July 8, 2010
Are Smaller Banks a Good Investment?
The general picture I have been drawing of the banking industry is as follows: big banks are doing well; banks that are not big are not doing so well.
Who do I consider to be the big banks?
The big banks are the largest twenty-five domestically chartered banks in the United States and these banks hold two-thirds of the banking assets in the country. These banks, as a group, are doing very well.
The not-big banks are all the rest, some 8,000 domestically chartered banks that hold approximately one-third of the banking assets in the United States. These banks are not doing so well.
The evidence of the condition of these not-big banks is that the Federal Reserve is keeping its target rate of interest at 25 basis points or below and has pumped around $1.0 trillion in excess reserves into the banking system. The FDIC has approximately one out of every eight banks in the country on its problem bank list and is closing three to four banks, on average, every week. It is expected to continue at this pace for another 12 months or so.
Commercial banks are not making loans and this is true of the not-big banks as well as the big banks. In the not-big banks the problem seems to be dealing with the bad assets they have on their balance sheets rather than just an absence of potential borrowers.
Yet, within this environment, we hear and read about people, funds, or groups buying up the smaller banks and attempting to consolidate them into viable and vibrant regional banks…and possibly more. The New York Times on July 8ran an article on just this type of activity: “Financier Invests in a New Jersey Bank”, http://www.nytimes.com/2010/07/08/business/08bank.html?_r=1&ref=todayspaper.
Does this make sense?
My answer to this is “Yes, it does make a lot of sense!”
The New York Times article is about Wilbur L. Ross, Jr. who is expected to announce the purchase of a stake in the New Jersey banking company Sun Bancorp, an organization that has around $3.5 billion in assets.
Mr. Ross, according to the article, has predicted that “hundreds of the nation’s troubled banks will fail” and that there will be a substantial consolidation of the banking industry over the next few years. In earlier posts, I have also argued that the banking system, now at 8,000 banks, will consolidate, dropping to a total of no more than 5,000 banks in the next five years, maybe even a lot fewer.
Ross, who has already acquired banks in Florida and Michigan, stated that this acquisition could be the first of many he acquires in New Jersey.
“The next 18 banks in size (in New Jersey) after this one (Sun), together, have around $5 billion in deposits, and there’s another 100-some-odd banks that, in total have $40 billion in deposits.” Ross argues that “That’s just way too many banks for one state to have.”
The financial industry is changing. The largest twenty-five commercial banks in the country are going to be one thing. I believe that these banks will move from about two-thirds of the banking assets in the country to about three-fourths. They will be an entirely different animal of their own making. I have written many posts on what these banks might become in the Information Age.
The other one-fourth of the banking assets in the country will be in banks that are larger than the average not-big banks that now exist, but will be more “client-first” banks, banks that are more relationship based like the outstanding banks we knew in the past.
Certainly, these banks will change because they, too, are a part of the Information Age. However, they will not be the diversified financial giants inhabiting the territory of the largest twenty five big banks. But, this change to incorporate the technology of the Information Age will alter these smaller banks in a fundament, yet different way. More on these changes in future posts.
Aside: It is interesting that a new biography is just currently hitting the book stores, one that deals with an “old fashioned” banker who emphasized, successfully, doing business in the traditional way. See “High Financier” The Lives and Time of Siegmund Warburg” by Niall Ferguson. Yes, this is the Niall Ferguson that wrote “The Ascent of Money.”
I believe that there exists a tremendous opportunity in the restructuring that is currently taking place in the banking industry. Of course, one must not rush into these “deals” hastily for there are many problems that still exist within the industry. Remember, that is a major reason that the Federal Reserve is keeping interest rates so low. Also, there is the change in financial regulations that are currently being written in Washington, D. C.
Still, there is a major restructuring taking place in the banking industry and when such a restructuring takes place in an industry, opportunities abound. This is a chance to get in on the ground level with the “new” relations-based commercial banking platform. It is a chance to be a part of the new “Information Age” banking organization. And, to me, this restructuring is going to take place through the consolidation of existing banks so as to achieve the appropriate scale and geographic distribution of offices.
The consolidation of banks will not be achieved over night because of the time and energy it takes to put organizations together. Furthermore, many of the consolidating banks will have problems, these banking assets must be “turned around” as well as combined and this will take time and energy. But, it can be done.
Furthermore, these banks need to be “conservatively” run. That is, in my mind, the new banking rules and regulations will not be an impediment to success. I have been a part of three “turnarounds” myself, two as a CEO and one as a CFO, and have raised millions in capital. I always wanted these banks to have policies and procedures that were stricter than those imposed by the bank regulators because I did not want regulators to have a say in the decisions of the bank. Even within this “conservative” requirement, the banks were “turned around” and achieved attractive returns. This can also be achieved within the current environment.
Smaller banks can be a good investment and an organization intent upon building a 21st century, client-based commercial bank through the consolidation of these smaller banks, I believe, can be quite successful. This is certainly an area to keep an eye on.
Disclosure: I am now a board member of a startup organization, e3bank, attempting to build a 21st century, client-based bank. More information can be found on this bank at http://www.e3bank.com/.
Who do I consider to be the big banks?
The big banks are the largest twenty-five domestically chartered banks in the United States and these banks hold two-thirds of the banking assets in the country. These banks, as a group, are doing very well.
The not-big banks are all the rest, some 8,000 domestically chartered banks that hold approximately one-third of the banking assets in the United States. These banks are not doing so well.
The evidence of the condition of these not-big banks is that the Federal Reserve is keeping its target rate of interest at 25 basis points or below and has pumped around $1.0 trillion in excess reserves into the banking system. The FDIC has approximately one out of every eight banks in the country on its problem bank list and is closing three to four banks, on average, every week. It is expected to continue at this pace for another 12 months or so.
Commercial banks are not making loans and this is true of the not-big banks as well as the big banks. In the not-big banks the problem seems to be dealing with the bad assets they have on their balance sheets rather than just an absence of potential borrowers.
Yet, within this environment, we hear and read about people, funds, or groups buying up the smaller banks and attempting to consolidate them into viable and vibrant regional banks…and possibly more. The New York Times on July 8ran an article on just this type of activity: “Financier Invests in a New Jersey Bank”, http://www.nytimes.com/2010/07/08/business/08bank.html?_r=1&ref=todayspaper.
Does this make sense?
My answer to this is “Yes, it does make a lot of sense!”
The New York Times article is about Wilbur L. Ross, Jr. who is expected to announce the purchase of a stake in the New Jersey banking company Sun Bancorp, an organization that has around $3.5 billion in assets.
Mr. Ross, according to the article, has predicted that “hundreds of the nation’s troubled banks will fail” and that there will be a substantial consolidation of the banking industry over the next few years. In earlier posts, I have also argued that the banking system, now at 8,000 banks, will consolidate, dropping to a total of no more than 5,000 banks in the next five years, maybe even a lot fewer.
Ross, who has already acquired banks in Florida and Michigan, stated that this acquisition could be the first of many he acquires in New Jersey.
“The next 18 banks in size (in New Jersey) after this one (Sun), together, have around $5 billion in deposits, and there’s another 100-some-odd banks that, in total have $40 billion in deposits.” Ross argues that “That’s just way too many banks for one state to have.”
The financial industry is changing. The largest twenty-five commercial banks in the country are going to be one thing. I believe that these banks will move from about two-thirds of the banking assets in the country to about three-fourths. They will be an entirely different animal of their own making. I have written many posts on what these banks might become in the Information Age.
The other one-fourth of the banking assets in the country will be in banks that are larger than the average not-big banks that now exist, but will be more “client-first” banks, banks that are more relationship based like the outstanding banks we knew in the past.
Certainly, these banks will change because they, too, are a part of the Information Age. However, they will not be the diversified financial giants inhabiting the territory of the largest twenty five big banks. But, this change to incorporate the technology of the Information Age will alter these smaller banks in a fundament, yet different way. More on these changes in future posts.
Aside: It is interesting that a new biography is just currently hitting the book stores, one that deals with an “old fashioned” banker who emphasized, successfully, doing business in the traditional way. See “High Financier” The Lives and Time of Siegmund Warburg” by Niall Ferguson. Yes, this is the Niall Ferguson that wrote “The Ascent of Money.”
I believe that there exists a tremendous opportunity in the restructuring that is currently taking place in the banking industry. Of course, one must not rush into these “deals” hastily for there are many problems that still exist within the industry. Remember, that is a major reason that the Federal Reserve is keeping interest rates so low. Also, there is the change in financial regulations that are currently being written in Washington, D. C.
Still, there is a major restructuring taking place in the banking industry and when such a restructuring takes place in an industry, opportunities abound. This is a chance to get in on the ground level with the “new” relations-based commercial banking platform. It is a chance to be a part of the new “Information Age” banking organization. And, to me, this restructuring is going to take place through the consolidation of existing banks so as to achieve the appropriate scale and geographic distribution of offices.
The consolidation of banks will not be achieved over night because of the time and energy it takes to put organizations together. Furthermore, many of the consolidating banks will have problems, these banking assets must be “turned around” as well as combined and this will take time and energy. But, it can be done.
Furthermore, these banks need to be “conservatively” run. That is, in my mind, the new banking rules and regulations will not be an impediment to success. I have been a part of three “turnarounds” myself, two as a CEO and one as a CFO, and have raised millions in capital. I always wanted these banks to have policies and procedures that were stricter than those imposed by the bank regulators because I did not want regulators to have a say in the decisions of the bank. Even within this “conservative” requirement, the banks were “turned around” and achieved attractive returns. This can also be achieved within the current environment.
Smaller banks can be a good investment and an organization intent upon building a 21st century, client-based commercial bank through the consolidation of these smaller banks, I believe, can be quite successful. This is certainly an area to keep an eye on.
Disclosure: I am now a board member of a startup organization, e3bank, attempting to build a 21st century, client-based bank. More information can be found on this bank at http://www.e3bank.com/.
Sunday, January 10, 2010
Smaller Banks Continue to Struggle
Smaller banks continued to struggle, balance sheet-wise, in the fourth quarter of 2009. Data have just been released bringing us through the last banking week of the year, December 30, 2009.
These data come from the H.8 release of the Federal Reserve System and are seasonally adjusted. Although there are some inconsistencies in the data series over time, this is the best comprehensive view we have of the banking system and can give us some idea of what is happening to banks if examined on a regular basis.
Large domestically chartered banks are the largest 25 domestically chartered banks in the United States and possessed about $6.7 trillion in assets on December 30, 2009. Small banks are the banks not included in the largest 25 and possessed about $3.6 trillion in assets on the same date. This difference in size gives you some indication of the relative importance, based on asset-size, of the two categories of banks. And, there are over 8 thousand FDIC insured banks in the United States.
Large banks, as we have heard, are going to report record or near record-level results for the calendar year 2009 and bonuses are expected to approach the levels reached in the peak year of 2007.
There is some indication that the interest-earning assets of large banks are starting to grow again. Over the past 13-week period securities held by these banks increased by about $87 billion and Loans and Leases rose by around $106 billion. Surprisingly, most of the increases in loans came in residential home loans and commercial real estates mortgages, $83 billion and $20 billion, respectively. Commercial and Industrial loans continued to decline over this period, dropping by about $27 billion.
We see similar behavior over the past 4-week period as the securities portfolio rose by about $21 billion and Residential and Commercial loans increased by a combined $12 billion. Business loans dropped this time period by about $7 billion.
Very little money, if any, is going into the business sector.
The improvement in the position of the larger banks has allowed them to reduce their holdings of cash assets by $172 billion over the past 13 weeks, by $26 billion in the last 4 weeks.
On the other hand, small banks really seem to be struggling. Profit-wise, the news is not good for this sector.
Their balance sheet performance is not all that good, either. Over the past 4-week period, the smaller banks have lost $36 billion in assets and have lost a total of $108 billion in assets over the past 13-weelk period.
All of this reduction has come in earning assets other than securities. Over the whole 13 week period the smaller banks have kept their securities portfolio roughly constant. Hence, the reduction in assets has been centered on their loan portfolios.
The biggest drop: commercial real estate mortgages. The smaller banks have seen their holdings of commercial mortgages drop by around $50 billion over the past 13 weeks; the drop has been slightly less than $20 billion for the last 4 weeks.
We have heard over and over again about the problems in commercial real estate and what a serious problem this is for the small- and medium-sized banks in this country. We have seen a decline of more than 10% in portfolio assets in this category over the past 12 months. The forecasts are for an additional decline by at least this amount over the next 12 to 18 months.
This is not a good picture.
The residential mortgage portfolio also continues to decline. We see another $8 billion reduction in this number over the last 13 weeks, the majority of the fall coming in the last four weeks.
The thing to watch here is that as unemployment stays high, as people continue to leave the workforce, and as businesses go more and more to hiring temporary help, the residential mortgage sector is expected to remain on the weak side. Almost everyone seems to predicting more foreclosures and more bankruptcies and the brunt of these difficulties is expected to fall on the small- to medium-sized banks.
Remember that at the end of the third quarter the FDIC had 552 banks, mostly smaller ones, on its list of problem banks. This number is expected to grow this year, even accounting for the number of banks that will actually fail. People are saying that about one-third of this total will fail which will be that 3 to 3.5 banks will fail every week for the next 12 to 18 months.
Are there any good signs or is everything bad?
Well, the big banks seem to be in great shape and are off to the races!
The small- and medium-sized banks seem to be in for some very rough times.
The gap widens further and further between Wall Street and Main Street!
And, as we have said before, thrift institutions seem to be in the same boat as the small- and medium-sized banks.
Today, it seems as if, if you want to be small, you should be a credit union!
Just one comment on regulatory reform: it seems to me that a part of regulatory reform needs to be a total restructuring of the financial services industry. The mumbo-jumbo we have right now is just a residual from the past and bears no rational relationship to anything that makes sense.
Thrift institutions were, at one time, the only financial institutions dedicated to the housing industry. At one time they were useful. They seem totally superfluous at the present time.
Others, particularly in Great Britain, seem intent upon a restructuring that would separate the deposit banking function of financial institutions from the deal making/trading function of financial institutions.
Perhaps before we spend a lot of time developing a regulatory structure of new bandages and splints for the old system, people should put in some serious time thinking about what financial institutions are needed and how functions should be allocated across institutions.
These data come from the H.8 release of the Federal Reserve System and are seasonally adjusted. Although there are some inconsistencies in the data series over time, this is the best comprehensive view we have of the banking system and can give us some idea of what is happening to banks if examined on a regular basis.
Large domestically chartered banks are the largest 25 domestically chartered banks in the United States and possessed about $6.7 trillion in assets on December 30, 2009. Small banks are the banks not included in the largest 25 and possessed about $3.6 trillion in assets on the same date. This difference in size gives you some indication of the relative importance, based on asset-size, of the two categories of banks. And, there are over 8 thousand FDIC insured banks in the United States.
Large banks, as we have heard, are going to report record or near record-level results for the calendar year 2009 and bonuses are expected to approach the levels reached in the peak year of 2007.
There is some indication that the interest-earning assets of large banks are starting to grow again. Over the past 13-week period securities held by these banks increased by about $87 billion and Loans and Leases rose by around $106 billion. Surprisingly, most of the increases in loans came in residential home loans and commercial real estates mortgages, $83 billion and $20 billion, respectively. Commercial and Industrial loans continued to decline over this period, dropping by about $27 billion.
We see similar behavior over the past 4-week period as the securities portfolio rose by about $21 billion and Residential and Commercial loans increased by a combined $12 billion. Business loans dropped this time period by about $7 billion.
Very little money, if any, is going into the business sector.
The improvement in the position of the larger banks has allowed them to reduce their holdings of cash assets by $172 billion over the past 13 weeks, by $26 billion in the last 4 weeks.
On the other hand, small banks really seem to be struggling. Profit-wise, the news is not good for this sector.
Their balance sheet performance is not all that good, either. Over the past 4-week period, the smaller banks have lost $36 billion in assets and have lost a total of $108 billion in assets over the past 13-weelk period.
All of this reduction has come in earning assets other than securities. Over the whole 13 week period the smaller banks have kept their securities portfolio roughly constant. Hence, the reduction in assets has been centered on their loan portfolios.
The biggest drop: commercial real estate mortgages. The smaller banks have seen their holdings of commercial mortgages drop by around $50 billion over the past 13 weeks; the drop has been slightly less than $20 billion for the last 4 weeks.
We have heard over and over again about the problems in commercial real estate and what a serious problem this is for the small- and medium-sized banks in this country. We have seen a decline of more than 10% in portfolio assets in this category over the past 12 months. The forecasts are for an additional decline by at least this amount over the next 12 to 18 months.
This is not a good picture.
The residential mortgage portfolio also continues to decline. We see another $8 billion reduction in this number over the last 13 weeks, the majority of the fall coming in the last four weeks.
The thing to watch here is that as unemployment stays high, as people continue to leave the workforce, and as businesses go more and more to hiring temporary help, the residential mortgage sector is expected to remain on the weak side. Almost everyone seems to predicting more foreclosures and more bankruptcies and the brunt of these difficulties is expected to fall on the small- to medium-sized banks.
Remember that at the end of the third quarter the FDIC had 552 banks, mostly smaller ones, on its list of problem banks. This number is expected to grow this year, even accounting for the number of banks that will actually fail. People are saying that about one-third of this total will fail which will be that 3 to 3.5 banks will fail every week for the next 12 to 18 months.
Are there any good signs or is everything bad?
Well, the big banks seem to be in great shape and are off to the races!
The small- and medium-sized banks seem to be in for some very rough times.
The gap widens further and further between Wall Street and Main Street!
And, as we have said before, thrift institutions seem to be in the same boat as the small- and medium-sized banks.
Today, it seems as if, if you want to be small, you should be a credit union!
Just one comment on regulatory reform: it seems to me that a part of regulatory reform needs to be a total restructuring of the financial services industry. The mumbo-jumbo we have right now is just a residual from the past and bears no rational relationship to anything that makes sense.
Thrift institutions were, at one time, the only financial institutions dedicated to the housing industry. At one time they were useful. They seem totally superfluous at the present time.
Others, particularly in Great Britain, seem intent upon a restructuring that would separate the deposit banking function of financial institutions from the deal making/trading function of financial institutions.
Perhaps before we spend a lot of time developing a regulatory structure of new bandages and splints for the old system, people should put in some serious time thinking about what financial institutions are needed and how functions should be allocated across institutions.
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