ViewPoint: National Banking Trends

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National Banking Trends

U.S. commercial bank performance, as measured by aggregate return on average assets (ROAA), has modestly improved in recent quarters. In the second quarter of 2010, ROAA rose to 0.67 percent compared with –0.11 percent a year earlier. Improved earnings were primarily the result of falling expenses, primarily accrued from declines in loan loss provisions rather than increased revenues. Just over 35 percent of commercial banks had an ROAA above 1 percent, the highest share since the third quarter of 2008, which was just prior to the onset of the financial crisis and the economic recession. The recent rebound has been led by banks with assets greater than $10 billion, which recorded an ROAA of 0.76 percent in the second quarter of 2010. Mid-tier bank (with assets between $1 billion and $10 billion) ROAA, however, has lagged other asset sizes (see chart 1).

Although still at 20 percent, the share of commercial banks that continued to lose money has fallen in recent quarters. At its peak in late 2009, over one-third of banks were unprofitable. Improved profitability was evident across asset sizes, but mid-tier banks reported the highest share of unprofitability, at just over 24 percent.

Asset quality improved in the second quarter of 2010, with net charge-offs as a share of average loans edging downward. At 2.78 percent, however, charge-offs remain at elevated levels, particularly in the case of large banks, where the charge-off rate was above 3 percent. Although occurring across the loan portfolio, charge-offs, both in absolute and percentage terms, were led by credit cards. The increase in charge-offs coincides with an increase in personal bankruptcy filings during the first quarter of 2010. Bankruptcies now stand at their highest level since new bankruptcy legislation took effect in 2005, according to the administrative office of the U.S. courts and data from Haver Analytics.

Similarly, noncurrent (more than 90 days past due or nonaccrual) loans remained above 5 percent of total loans at midyear 2010, reflecting the continued distress among borrowers (see chart 2). Once again, large banks reflected the elevated noncurrent loan levels while noncurrent loan shares at small and mid-tier bank were below the 5 percent threshold.

Notable deterioration in asset quality persisted among commercial mortgages (nonfarm/nonresidential and multifamily) and land development and loans not for 1–4 family construction. Although commercial real estate (CRE) property generally remains a distressed asset class, market fundamentals in this category displayed some signs of stabilization in the second quarter of 2010 as the pace of increase in vacancy rates slowed. On a quarterly basis, vacancies rose 10 basis points or less in the office, retail, and warehouse segments, according to data from CB Richard Ellis Econometric Advisors.

The multifamily segment remained a comparative bright spot in the CRE market with vacancy rates retreating to just 7 percent in June, their lowest level since early 2008, according to data from Axiometrics Inc. Valuation of properties, however, remains a critical issue, as any declines in cap rates are biased by comparatively low levels of transactions and the fact that investor interest is focused on only best properties. Stress on business/commercial (B/C) class properties remains highlighted by continued increases in commercial mortgage-backed securities (CMBS) delinquencies (more than 60 days past due or in foreclosure) through midyear. A return to health in CRE markets is critical for small and mid-tier banks, as commercial mortgages account for more than 20 percent of assets.

Lending activity at commercial banks remained constrained. Total loans as a share of assets continued to decline through midyear 2010, falling to 55.3 percent from nearly 60 percent at the end of 2007. Alternatively, banks have increased holdings of cash and balances due from other depositories and securities. Growth in cash and balances due was primarily the result of holdings with the Federal Reserve, which stood in excess of $584 billion in early 2010, compared with less than $20 billion three years earlier. Were it not for substantial declines in the cost of funds, the downward shift in the loans-to-assets ratio would have adverse implications for net interest margins as yields on securities are below those on loans.

After increasing earlier this year on a quarterly basis for the first time since the third quarter of 2008, total loans at commercial banks slipped by 1.4 percent in the second quarter of 2010. Loan declines were led by a comparatively large 15.6 percent drop in 1–4 family construction loans, which coincided with renewed weakness in housing starts and permitting following the expiration of the first-time homebuyers' tax credit on April 30. Quarterly percentage declines were most pronounced at mid-tier and large banks. Since its peak in early 2008, single-family construction lending at commercial banks has declined by just over 60 percent.