Lackluster national banking conditions put pressure on local sector

The latest numbers from the Federal Deposit Insurance Corp. paint a less-than encouraging picture of the U.S. banking industry.

The most recent FDIC data shows that the nation's banks lost $3.7 billion in the second quarter. Total lending has declined for the last four quarters, and quarterly net charge-offs, at $48.9 billion, and noncurrent loans and leases, at $332 billion, are at the highest levels in the 26 years this data has been reported.

Meanwhile, the list of problem banks - defined by FDIC as "those institutions with financial, operational or managerial weaknesses that threaten their continued financial viability" - rose 36 percent, from 305 in the first quarter to 416 at the end of June.

The good news, according to FDIC Chairwoman Sheila Bair, is that although challenges remain, there is evidence that the U.S. economy is starting to grow again.

"Banking industry performance is - as always - a lagging indicator. The banking industry, too, can look forward to better times ahead," Bair said in an Aug. 27 news release. "But, for now, the difficult and necessary process of recognizing loan losses and cleaning up balance sheets continues to be reflected in the industry's bottom line."

National problems = local pressure

The impact of loan losses is not limited to institutions that made poor lending decisions.

"Even the very healthy are having to pay for the imprudent lending practices of those banks that are failing," said Bob Hammerschmidt, Springfield regional president for Commerce Bank, pointing to the announcement of five more bank failures on Sept. 4, bringing the 2009 total to 89. Those include Iowa-based Vantus Bank, which has been acquired by Springfield-based Great Southern Bank. (See story on page 12).

Commerce, which reported $37 million in second-quarter profit, recently sent the FDIC an unbudgeted special assessment of $18 million to help cover losses at insured institutions. Shares of the Kansas City-based, publicly traded bank (Nasdaq: CBSH) closed at $36.81 on Sept. 8, compared to a 52-week range of $27.80 to $52.85.

"And we're probably going to have to write another $18 million check before the end of the year," he said.

Special assessments to bolster the FDIC insurance fund totaled $5.5 billion nationwide.

Banks have to make up the cost of those higher assessments somewhere, Hammerschmidt said, and there are four primary ways to do that.

"We can increase our loan rates, decrease our deposit rates, we can charge fees, or we can decrease expenses," he said. "I would say no bank is doing any one; I'd say all banks are doing a combination of all four."

While the assessments are painful for healthy institutions, they can be devastating for others, according to Russ Marquart, president and CEO of Empire Bank.

"Higher costs of doing business, such as increased FDIC assessments to pay for bank failures, will make it more challenging for marginal institutions to remain viable and independent," Marquart said via e-mail.

The latest available FDIC data for Empire Bank shows $821.8 million in assets and $705.9 million in deposits as of June 30. In the first six months of 2008, Empire's assessed FDIC rate was $45,000, compared to $800,000 in the first six month of this year, half of which was a special assessment.

The increased pressure on banks also can create opportunities for stronger institutions to grow their assets by acquiring other banks and adding customers.

"We believe there are opportunities to gain market share as people continue to evaluate their financial services provider for strength and stability," Marquart added.

Holding steady

Marquart and Hammerschmidt agree that banking in southwest Missouri is generally holding its own through the economic slump.

"I think our local banking industry is better capitalized," Hammerschmidt said. "I think that it's better managed as a whole."

In fact, state-chartered institutions in Missouri are in better shape than the nation as a whole. While more than 28 percent of FDIC-insured institutions nationwide reported net second-quarter losses, for Missouri's state-chartered banks, that figure was 21 percent.

Still, that is three times the 7 percent of Missouri banks that were unprofitable in second-quarter 2007 and 50 percent higher than the 14 percent that were unprofitable in second-quarter 2008.

"Some institutions that veered away from sound lending practices or became too focused on growth have experienced some stress," Marquart said, "and I believe it will be tougher going forward as the recession has a continued impact on customers' ability to meet their obligations."

The next wave

While it's good news that bad assets are coming off bank balance sheets, banks can't breathe easy yet. They will likely face another wave of bad assets in commercial real estate loans and adjustable rate mortgages, Hammerschmidt noted.

Marquart concurred and said, "There is some softness in commercial real estate, and loans/securities backed by these properties could struggle."

Consumer spending cutbacks are putting pressure on small businesses, which ultimately affects landlords' abilities to pay their commercial mortgages or construction loans.

"Small business is feeling the pressure more than any sector right now because households are very, very leveraged; they still have a lot of credit card debt, a lot of mortgage debt, they're upside down on their cars," Hammerschmidt said, noting that commercial real estate exposure is his biggest concern right now and a top concern of regulators.

The economic fallout in commercial real estate could particularly affect smaller institutions.

"The small community banks have been heavily reliant on commercial real estate and construction and land development loans. So they've still got some tough times ahead of them here throughout 2010," Hammerschmidt said.

On the residential side, a lot of adjustable rate mortgages are coming up for refinancing, and while loan rates are fairly good right now, the value of the homes have decreased as much as 18 percent to 20 percent, putting some of those loans underwater and making it difficult, if not impossible, for borrowers to refinance, Hammerschmidt said.