Bankers warned about consequences of over-lending

Northwestern Financial Review, Mar 15, 2001 by Bengtson, Tom

With banks so heavily loaned up, will they have sufficient resources to withstand an economic downturn? That was the question that emerged from a presentation made by Rob Northwood at the Wisconsin Bankers Association annual Group One meeting Feb. 17 at the Radisson Plaza Hotel in Minneapolis. A James Baker & Associates consultant, Northwood said banks can usually rely on securities gains to offset losses in the loan portfolio. Lately, however, banks have depleted their securities portfolios to fund loan growth, which Northwood fears will make them vulnerable in a difficult economy.

"I am concerned that banks have no cushion," he said.

"We are seeing dramatic changes in the balance sheet of banks all across the country," said Northwood. He encouraged banks to monitor their loan growth.

He said most banks that have securities portfolios are not realizing gains because they bought bonds when rates were low. He noted that last May, when rates were at their peak, loan demand was also at an alltime high, which meant banks had little money to put into the bond market.

Many of the bonds banks own are being called as interest rates decline. While some bankers welcome the cash they get back when a bond is called, Northwood encouraged bankers to carefully consider how to reinvest that money. He said in a falling interest rate environment, bankers should seek to lengthen the duration of their portfolio.

Michael Mach, administrator in Wisconsin's Division of Banking, concurred that bankers have "little room for error," considering the high levels of lending taking place at most banks.

Mach said the environment for banks is getting more difficult and that profitability levels are falling. Average return on assets, for example, is going to be around 1.0 percent, compared with a few years ago when it was closer to 1.5 percent.

Mach said bankers need to pay close attention to credit quality. "Many indicators say we are moving into a period of softness," he said. For example, Mach cited past-due statistics for consumer loans in Wisconsin. On Dec. 31, 2000, 4.51 percent of such loans were past due, compared to 3.68 percent just 90 days prior, and 3.09 percent on Sept. 30, 1999. "That's an awfully big jump in such a short amount of time," he said. "A deterioration in consumer credit is often a leading indicator of an economic turndown."

Mach also warned that since it has been so long since the last recession, the banking industry has a "whole cadre of loan officers who have never lent money during difficult economic times." He encouraged experienced bankers to offer training to newer loan officers. In addition, he said, many business owners and other borrowers have little experience with difficult economic situations. Their loan requests need to be carefully evaluated, he cautioned.

By Tom Bengtson