ViewPoint: State of the District

Introduction | National Banking Trends | State of the District | Spotlight: Commercial Real Estate | Spotlight: Interest Rate Yields

State of the District

Asset Quality :: Balance Sheet Growth :: Bank Failures :: Deposits :: Earnings Performance
Asset Quality

Even though many economic conditions still appear weak, asset quality in the Sixth District looks as if it has turned a corner in 2011 as noncurrent loans and charge-offs have been trending downward over the past three quarters (see the table).

While charge-offs remain elevated when compared with charge-offs before the crisis, they fell to the same level they were in the third quarter of 2008 (see chart 1).

Out-of-District banks' noncurrent loans have been declining (see chart 2), but of late the decline has not been as rapid as the decline in the Sixth District; however, the level of noncurrent loans at Sixth District banks is still higher than for peer banks outside of the District.

Banks in the District are reacting to the decline in noncurrent loans by keeping their coverage ratio—which increased slightly over the previous quarter—low and their allowance for loan loss stable to trending slightly down (see chart 3).

Balance Sheet Growth

Loan growth remains a concern for banks in the Sixth District (see chart 1).

District lending levels continue to fall as new lending opportunities remain highly elusive and very competitive. For almost two years, loan growth has been negative quarter to quarter. Loan growth has declined by 9 percent from the prior year, which is nearly double the decline observed by out-of-District banks. Sixth District banks continue to shed construction and development (C&D) loans, seeking other loan types to replace the highly volatile loans on their balance sheets. On a year-over-year basis, outstanding balances for C&D loans have declined by more than $7 billion. Although there have been some noted pockets of improvement, many of the real estate markets within the District remain depressed, which ultimately limits any additional lending opportunities (see the table).

On a national basis, banks are renewing their interest in commercial real estate (CRE) loans, particularly with regard to multifamily properties like apartments. According to a July 27 report from an analyst at the real estate information firm CoStar, interest in this type of real estate lending is coming from both big banks and community banks. For example, BB&T's CEO said that he expects BB&T to grow its CRE portfolio over the next several quarters. Even though Sixth District banks are trying to diversify their portfolios, CRE still remains a critical component of the balance sheet. Lending on multifamily projects has declined the least since last year. However, problems within the commercial mortgage-backed securities market, which has had some offerings pulled recently, along with generally depressed property prices, could pose substantial risks for banks. Besides CRE, banks in the Sixth District are aggressively pursuing commercial and industrial (C&I) loans. Lending officers are reporting that there has been some easing of loan terms for the C&I portfolio (such as maximum maturity of loans or credit lines) in order to stimulate new lending (see chart 2).

Sixth District small business loans, a type of C&I lending, is leading out-of-District peers (see chart 3).

For more detailed information on small business conditions in the Sixth District, see the Federal Reserve Bank of Atlanta's Small Business website.

Bank Failures

Despite the return to positive earnings in the second quarter of 2011, Georgia and Florida continued to lead the nation in terms of year-to-date bank failures. Although challenges remain, evidence suggests that the number of stressed banks is moderating. Nationwide, although still elevated, the number of problem institutions has fallen for the first time since 2006 (see the chart). Similarly, in the Sixth District, the aggregate Texas ratio—a widely used measure of a bank's credit trouble—has declined, which indicates that the pace of failures will abate going forward.


New core deposits have been both a help and a hindrance to banks. Without any loan growth, core deposits have been essential to banks in stabilizing or maintaining their net interest margin. Since the crisis began, core deposits to assets have steadily climbed as economic uncertainty has caused people to increase their savings rate (see the chart).

However, businesses with large deposit balances are unlikely to increase borrowing before drawing down at least some of their cash deposits. For banks seeking new C&I loans to add to their portfolios, such cash deposits are proving to be an overwhelming hurdle. Given the level of core deposits that banks have, noncore funding in the Sixth District has fallen from a peak of more than 30 percent to its lowest level in six years. Use of noncore funding by Sixth District banks remains higher than banks not in the District but appears to have bottomed out, while noncore funding increased slightly in out-of-District banks.

Earnings Performance

Although the earnings performance among Sixth District community banks (assets less than $10 billion) continues to lag their out-of-District peers, District banks have reported their first positive earnings in more than two years (see the table).

Banks posted an aggregate quarterly annualized net income of $452 million in the second quarter of 2011. A combination of factors helped to push net income into positive territory. For instance, the net interest margin continues to improve due to a greater reliance on core deposit funding by banks, which in turn lowers interest expense. Sixth District banks have also been able to lower their provision expense while maintaining the coverage ratio at roughly the same percentage as last year. Still, the net income achieved by Sixth District banks pales in comparison with that of its out-of-District banks whose aggregate annualized net income more than doubled again this quarter.

With the issuance of rules to implement controls on interchange fees, banks are becoming more focused on preserving noninterest income, which ahead of implementation fell by 13 percent from last year for Sixth District banks. Banks are going to have to find a way to replace this income, which is leading some banks to develop new deposit account fees. In fact, some banks have publicly stated that they will seek to increase fees charged to customers to offset their lost interchange revenue. Noninterest expense was up once again in the second quarter, continuing a trend started in the previous quarter as a result of incurring costs associated with working out problem loans and other real estate expenses.