The mortgage and real estate industry doesn't always solely bear the brunt of
Congress's actions, or lack of actions. When Congress left for a five week
August recess it left many bills unfinished and agencies in limbo. At midnight
on Wednesday, for example, for the first time in its history the U.S. Postal
Service defaulted on $5.5 billion in payments for future retiree health care
benefits. A 2006 law that requires the agency to prefund health care
benefits for future retirees forces the Postal Service to pay a 75-year
liability in a 10-year period at a cost of about $5.5 billion a year. This
onerous mandate accounts for 85 percent of the Postal Service's financial
crisis. The U.S. Postal Service will lose $25 million today, another $25
million tomorrow and $25 million more every day after that until Congress acts
- and unless Congress acts quickly, the service will likely default on another
$5.6 billion payment due on Sept. 30.
Returning to lending, and to banks, I am not a bank regulator, nor will I ever
be - too many tawdry jokes over the years to be qualify for a job. But if
I was, I'd be concerned about core bank earnings, given low interest rates
and weak loan demand. Basically, banks have too much cash and tight, but
not unreasonable, underwriting guidelines under which to loan the money out.
While commercial, industrial, and multifamily have seen some growth, outside of
those sectors, banks are struggling to find strong borrowers. Weak lending,
combined with persistently low interest rates, are hurting margins. Those same
factors are also driving banks to compete aggressively, so underwriting
practices are definitely one area getting focus. But no one wants buybacks down
the road, and QM is looming.
In a recent speech, Treasury Secretary Geithner said the housing sector will
need two to three more years of "creative" financing in order to
recover. Huh? Funding is a concern despite the piles of cash. Low interest
rates have driven huge growth in non-maturity business deposits, which is a
good thing. Regulators are concerned, however, that these deposits are
vulnerable to run-off and significant upward re-pricing once businesses start
redeploying funds or if interest rates rise. That could strain funding costs
and limit upside growth in margin despite stronger economic growth. While this
is a lower risk right now, I am seeing banks have a plan to keep both borrowers
and depositors locked in for the longest terms possible whenever they can do
Focus is also heightened on reduced loss provisions. Doing so has helped
industry ROA recover over the past 18 months, but the trend cannot continue for
much longer. Expect scrutiny here, so have well-documented justification and be
sure ALLL levels are directionally consistent with asset quality trends. The Pacific
Coast Bankers Bank noted that examiners are also looking at the bank's risk
appetite and loan growth. Home equity lending has surfaced as a significant
risk. Over the next few years, large volumes of these loans will reach the
end of their draw periods. In fact, about 58% of all HELOC balances will start
amortizing between 2014 and 2017. As these loans move from interest only to
fully amortizing, and given such a risk profile, regulatory scrutiny here is
high. Income producing CRE portfolios also remain an area of focus for
regulators. Concentrations, high vacancy rates and concern over current and
future operating income and borrower performance mean this will remain an area
of focus. Massive industry changes have many rethinking their business models.
It is critical to evaluate your bank's current situation and have a strong
strategic plan given the evolving environment.
And in the last month, a group of banks released public disclosures on how
the proposed Basel III capital weightings might impact their Tier 1 capital ratios.
SunTrust, First Horizon, Huntington, and TCF get hit the hardest of
those banks that released the calculations driven by their holdings of home
equity loans, interest only/balloon mortgages and non-performing assets. BofA,
Citi, BONY and others would see their ratios increase. Many banks are
indeed caught between a rock and a hard place. Why should some banks originate
more mortgages and add to servicing if Basel III is going to limit MSR's and
also impact required capital?
Over the past four years, the U.S. monetary base has grown from roughly
$850 billion to more than $2.6 trillion, the primary driver of which has been
the implementation of quantitative easing as the FOMC attempted to
revive the U.S. economy. And the markets fully expect another round: QE3.
Once in a while I am asked if all this extra money in the system diminishes the
value of the U.S. dollar and ultimately leads to higher inflation. There is a
legitimate basis to this question as prices are a function of the money supply -
there is a relationship between money and prices. (Just try bidding against
Elton John for an art piece that you want.)
But if prices were exclusively a function of the money supply, the near
tripling of the monetary base between late 2008 and 2011 should have given way
to runaway inflation. That didn't happen.
Price growth has been averaging nearly 2.5 percent on a year-over-year basis
for the past two years, in check with the Consumer Price Index (CPI).
When it comes to the impact of the growth of the money supply and the impact on
prices, one major consideration is the money multiplier. When banks make loans,
the net effect is essentially an increase in the money supply. Banks create
money through lending, using that money to purchase say a piece of new
equipment. The seller of the equipment now has cash that she might invest in
another bank. That new deposit provides the second bank the reserves necessary
to make another loan, which creates more money and the cycle continues. This
is the money multiplier. This cycle continues, but is limited at some point by
the amount a bank is required by the Federal Reserve to keep on hand. But bank
lending has a tendency to slow in the immediate wake of a recession, due to
tightening in lending standards and a growing reticence to engage in lending.
With lending growth essentially stagnant, there was little impact on the money
supply from the banking sector.
In addition to the monetary base and the reserve-deposit ratio, there is
one additional factor to consider when thinking about the money supply: the
cash-deposit ratio: the cash in your wallet, or cash that is squirreled away
under a mattress. This deprives the bank from the reserves that might otherwise
be used to make loans and expand the money supply. So the reason why growth
in the monetary base did not result in runaway inflation over the past two
years is that banks, in aggregate, have not been lending. But that dynamic may
be changing. With the recovery now entering its fourth year, the U.S. economy
continues to slowly heal. Job growth, while anemic compared to prior
recoveries, continues to expand and has slowly contributed the improving
household financial picture. Businesses have also restructured their balance
sheets to better position themselves for a feast or famine type scenario-either
a credit market tightening due to the negative ramifications of the Euro Crisis
or conversely to take advantage of a potential opportunities to expand in their
market space. While a European credit shock would certainly have the potential
to derail the recovery, it appears that unless a shock of that magnitude were
to unfold, business lending is on a sustainable improving pace that is
consistent with rising demand and improving credit conditions. Also, bank
consumer loans, which include credit cards, automobiles, student loans and
other personal loans, have increased in the last several months. So there
continue to be "green shoots." And obviously mortgage rates have been helped
by the Federal Reserve's actions.
Moving from some global theory and thinking into some practical,
down-to-earth banking and M&A news. As always, it is best to read
the actual releases, but these recent changes will give you a flavor for the
trends in the banking industry.
Financial USA ($4.4B, IA) will acquire The First National Bank of
Platteville ($135mm, WI) for about $11 million in cash and stock. And in
Illinois Waukegan Savings Bank of Waukegan was closed yesterday and is now part
of the First Midwest Bank over in Itasca.
In New York Community Bank System has reported it will close five
Holding Company has announced that it will be acquiring Community
Financial Corporation and its wholly owned subsidiary, Community Bank.
City will take ownership of Community's
branches along western Virginia's 1-81 corridor along with its two Virginia
Beach branches. The transaction is part
of City's initiative to expand its presence in Virginia; earlier this year, it
acquired the Front Royal-based Virginia Savings Bank. Assuming that the transaction is approved by
the relevant regulatory bodies and Community shareholders, the deal should be
completed by the first quarter of 2013.
Partnership Bank has entered an agreement with Northern Trust
whereby it will acquire the latter's full-service office on Chicago's South
Side (Northern Trust is actually an investor in Urban Partnership Bank). The office will serve as Urban Partnership
Bank's tenth branch in Chicago, extending its reach to the Chatham,
Auburn-Gresham, and Greater Grand Crossing areas. Regulators' approval of the transaction is
anticipated for late 2012, according to financial advisor Keefe, Bruyette
Four brothers left home for college, and they became successful doctors and
One evening, they chatted after having dinner together. They discussed the 95th
birthday gifts they were able to give their elderly mother who moved to Florida.
The first said, "You know I had a big house built for Mama."
The second said, "And I had a large theatre built in the house."
The third said, "And I had my Mercedes dealer deliver an SL600 to
The fourth said, "You know how Mama loved reading the Bible and you know
she can't read anymore because she can't see very well. I met this preacher who
told me about a parrot who could recite the entire Bible. It took ten preachers
almost 8 years to teach him. I had to pledge to contribute $50,000 a year for
five years to the church, but it was worth it Mama only has to name the chapter
and verse, and the parrot will recite it."
The other brothers were impressed. After the celebration Mama sent out her
"Thank You" notes.
She wrote: Milton, the house you built is so huge that I live in only one room,
but I have to clean the whole house. Thanks anyway."
"Marvin, I am too old to travel. I stay home; I have my groceries
delivered, so I never use the Mercedes. The thought was good. Thanks."
"Michael, you gave me an expensive theatre with Dolby sound and it can
hold 50 people, but all of my friends are dead, I've lost my hearing, and I'm
nearly blind. I'll never use it. Thank you for the gesture just the same."
"Dearest Melvin, you were the only son to have the good sense to give a
little thought to your gift. The chicken was delicious Thank you so much."