Credit & Capital

Banks’ Balance Sheets: Strong Enough to Absorb a Credit Shock?

Quarterly U.S. bank earnings show balance sheets getting stronger; business loans still performing well.
Vincent RyanNovember 21, 2018
Banks’ Balance Sheets: Strong Enough to Absorb a Credit Shock?

While many experts bemoan what they see as a bubble in corporate credit, banks’ balance sheets showed no signs of a deterioration in commercial loan performance last quarter.

According to the Federal Deposit Insurance Corporation’s report on the third-quarter earnings of commercial banks and savings institutions, almost half of all banks (49.5% of the 5,477 FDIC-insured institutions) reported declines in noncurrent loan balances (loans 90 days or more past due or in nonaccrual status). Across all of those banks, commercial and industrial loan balances that were noncurrent fell by $1.1 billion (6.8%).

At the same time, almost 61% of the banks reported an increase in loan loss reserves. As a result, their combined coverage ratio (the measure of a bank’s ability to absorb potential losses from nonperforming loans) rose to 122.2%, the highest level since the first quarter of 2007, said the FDIC.

FDIC Chair Jelena McWilliams

Robust overall earnings, meanwhile, continued. Aggregate net income hit $62 billion, up $14 billion (29.3%) from a year ago. Banks were helped by a lower effective tax rate, higher net interest income, and loan growth across all categories. The average net interest margin rose to 3.45%, up 15 basis points from a year ago, “as average asset yields grew more rapidly than average funding costs,” the FDIC said.

Bank deposits rose by $105 billion (0.8%) from the previous quarter, boosted by interest-bearing deposits increasing $159.3 billion (1.8%). Noninterest-bearing deposits fell by $72.9 billion (2.3%), the largest quarterly dollar decline since the first quarter of 2013.

FDIC Chair Jelena McWilliams warned bankers about the danger of lowering credit standards as interest rates rise.

While results this quarter were positive, the extended period of low interest rates and an increasingly competitive lending environment have led some institutions to ‘reach for yield,’” she said. “Additionally, the competition to attract loan customers has been strong, and it will remain important for banks to maintain their underwriting discipline and credit standards. These factors have led to heightened exposure to interest-rate risk and credit risk.”

Banks’ noninterest expenses also rose in the quarter, up 4% from a year ago. Much of the yearly increase was attributable to salary and employee benefits, the FDIC said.