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Central Banker - Summer 2010

Central Banker - Summer 2010

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Published by: Federal Reserve Bank of St. Louis on Aug 13, 2010
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11/29/2010

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The Federal reserve Bank oF sT. louis: CenTral To ameriCa’s eConomy
®
| sTlouisFed.org
CenTral
news and views For eighTh disTriCT Bankers
   S   u   m   m   e   r   2   0   1   0
Fd i i i:
 
District and U.S. Banks on the Mend? | Small-Business Lending Problems
continued on Page 7 
E
conomic conditions continue toseverely stress the commercialreal estate (CRE) market. The CREmarket is experiencing increasingdelinquencies, value deterioration dueto rising cap rates, and substantialrefnancing risk over the next several years. The magnitude o the challengeis driven home by the act that U.S.banks held $1.8 trillion in outstandingCRE debt as o May 2010.In response to tremendous lossesin CRE, the ederal banking supervi-sors issued in October the Interagency Policy Statement on Prudent CRELoan Workouts. The purpose wasto promote supervisory consistency,enhance the transparency o CRE workout transactions, and ensure thatsupervisory policies and actions do notinadvertently curtail the availability o credit to sound borrowers.When problems with CRE loansarise, bankers and borrowers oten work together to restructure the loan.But CRE loan workout situations canpresent unique considerations, leav-ing bankers with more questions thananswers under the ederal guidance.So, on May 5, the Fed’s experts helda nationwide teleconerence call toexplain the guidance to bankers andto answer their questions. More than1,300 fnancial institutions joined thecall, submitting 60 questions or con-sideration.The program was presented by Sabeth Siddique, assistant director
Fed Conference Call Helps BanksNavigate CRE Loan Workouts
o credit risk at the Federal Reserve’sBoard o Governors, and his team,consisting o Robert Walker, VirginiaGibbs and Brian Valenti.“The guidance is not a panacea orsolving all o the challenges o man-agement and resolution o troubledloans,” explained Siddique. And it’snot meant to be any orm o orbear-ance, but rather a reiteration o exist-ing principles.”The general guidance ocuseson the ollowing:promoting prudent workouts,recognizing that reasonable and pru-dent workouts are in the best interesto both banks and borrowers,
Good Loan Workouts ave hree Components
1. nalyzng the borrower’s repayment capacty
– The analysisshould demonstrate the borrower’s willingness and capacity torepay under reasonable modied terms.
2. valuatng the guarantor
– The guarantor should have both thecapacity and willingness to provide ongoing support. The bankshould have documentation to demonstrate the guarantor’s capac-ity to fulll the obligation. The documentation should include awritten and legally enforceable agreement.
3. ssessng collateral value
– Consideration should be given tothe reasonableness of the underlying assumption of the bank’scollateral valuation. Weaknesses in collateral valuations shouldbe addressed, and the degree of collateral protection shouldbe assessed.
 
 
 News and Views for Eighth District Bankers
Vol. 20 | No. 2www.stlouisfed.org/publications/cb
i
Scott Kelly314-444-8593scott.b.kelly@stls.frb.org
Central Banker 
is published quarterly by thePublic Aairs department of the FederalReserve Bank of St. Louis. Views expressedare not necessarily ocial opinions of theFederal Reserve System or the FederalReserve Bank of St. Louis.Sign up for
Central Banker 
e-mail notices atwww.stlouisfed.org/publications/cb/. Followthe Fed on Facebook, Twitter and more atstlouisfed.org/followthefed.To subscribe for free to
Central Banker 
orany St. Louis Fed publication, go online towww.stlouisfed.org/publications/subscribe.cfm.To subscribe by mail, send your name, address,city, state and ZIP code to: Central Banker,P.O. Box 442, St. Louis, MO 63166-0442.The Eighth Federal Reserve District includesall of Arkansas, eastern Missouri, southernIllinois and Indiana, western Kentucky andTennessee, and northern Mississippi. TheEighth District oces are in Little Rock,Louisville, Memphis and St. Louis.
CT VW
Independence Is Best Routefor Fed Accountability
 By Julie Stackhouse
B
ankers are well aware o theunprecedented actions taken by theFederal Reserve in the all o 2008 tostem the downward spiral o the fnan-cial crisis. At various points in time,the Fed had more than $1.5 trillion out-standing in loans to fnancial institu-tions and, more recently, has purchased$1.25 trillion o mortgage-backed secu-rities to stabilize the economy.The magnitude o the Fed’s responseto the fnancial crisis has caused someto question why the Fed has the ree-dom to engage in such actions with-out the explicit consent o Congress.This reedom to stabilize the fnancialsystem without political direction iscommonly reerred to as “central bankindependence.”Legislation recently passed by the House o Representa-tives could aect central bank independence by permit-ting requent and ongoing reviews o monetary policy andfnancial stability decisions, deliberations and actions by theGovernment Accountability Ofce (GAO). Currently, mon-etary policy actions are not subject to GAO review.The implications o such reviews are signifcant andconcerning. GAO reviews o discount window loans, orexample, could serve to dampen the willingness o banksto borrow rom the discount window during periods o fnancial instability. Take, or example, the frst two daysollowing the tragic events o Sept. 11, 2001. I banks hadbeen reluctant to use the discount window or ear o GAOdisclosure, would our fnancial system have rebounded soquickly?The implications or monetary policy eectiveness mustbe careully weighed. The Federal Reserve’s ability to act inthe long-run best interests o the economy depends impor-tantly on its credibility and independence rom short-termpolitical pressures, including the temptation o governmentsto use the central bank to und budget defcits or alter the way monetary policy is conducted. Numerous studies haveshown that countries whose central banks are protectedrom short-term political inuence have better economicperormance, including lower ination and interest rates.Without question, the Federal Reserve should be account-able to the electorate or its actions. However, audits by theGAO are not the best way. Indeed, retaining the indepen-dence o the central bank may well be the best method orpreventing government rom misusing monetary policy orshort-term political purposes.
 Julie Stackhouse issenior vice president of the St. Louis Fed’sdivision of BankingSupervision, Credit and the Center forOnline Learning.
2
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Central Banker
 
www.stlouisfed.org
 
QTT
Are District and U.S. Bankson the Mend?
 By Michelle Neely
P
rofts strengthened at EighthDistrict banks and their nationalpeers in the frst quarter o 2010, anindicator that the industry may havehit a turning point. Return on averageassets (ROA) climbed 49 basis pointsto 0.58 percent at District banks in thefrst quarter; at U.S. peer banks—those with average assets o less than $15billion—ROA jumped 58 basis pointsand into positive territory, hitting0.24 percent. (See table.)Smaller institutions continue to bemore proftable than their larger coun-terparts. District banks with averageassets o less than $1 billion averagedROA o 0.76 percent in the frst quar-ter; national peer banks in this sizecategory recorded an average ROA o 0.43 percent.The increase in proftability is theresult o modest increases in net inter-est income and substantial declines inloan loss provisions and noninterestexpenses. The net interest margin(NIM) rose at both sets o banks to 3.77percent, an increase o 10 basis pointsor District banks and 12 basis pointsor U.S. peer banks. At both sets o banks, declines in interest income were more than oset by declines ininterest expense, resulting in risingNIMs.Net noninterest expense shrunk19 basis points at District banks and12 basis points at U.S. peer banks.Although personnel and other nonin-terest expenses ell and noninterestincome increased slightly, the primary actor driving down net noninter-est expense was a large reduction inimpairment losses or goodwill andother intangible assets, especially atinstitutions with assets o more than$1 billion.A substantial reduction in loan lossprovisions, however, was the domi-nant determinant or the large uptickin earnings. Loan loss provisions as apercent o average assets ell 30 basispoints at District banks and a stagger-ing 46 basis points at U.S. peer banksin the frst quarter. Some o thatdecline no doubt reects a ratchetingback o normal end-o-year accountingadjustments.The drop in loan loss provi-sions does not seem to be related toimprovements in asset quality, espe-cially at the District level. The ratioo nonperorming loans to total loansrose 22 basis points to 3.08 percent inthe frst quarter at District banks and was up 10 basis points to 4.25 percentat U.S. peer banks. Among the threemajor categories o bank loans—realestate, commercial and industrial,and consumer—only consumer loansshowed a drop in delinquency sta-tus. Nonperorming loan rates in thereal estate portolio continue to rise,especially in the commercial area.More than 11 percent o all Districtconstruction and land developmentloans were nonperorming at the endo March; or U.S. peer banks, the ratio
arnngs re p but o is Loan elnquency
1Q 20094Q 2009 1Q 2010
RetuRn on AveRAge Assets
District Banks0.18%0.09%0.58%Peer Banks-0.10-0.340.24
net InteRest MARgIn
District Banks3.633.673.77Peer Banks3.563.653.77
LoAn Loss PRovIsIon RAtIo
District Banks0.901.070.77Peer Banks1.321.581.12
nonPeRfoRMIng LoAn RAtIo
District Banks2.192.863.08Peer Banks3.324.154.25
SOURCE: Reports o Condition and Income or Insured Commercial BanksNOTE: Banks with assets o more than $15 billion have been excluded rom the analysis.All earnings ratios are annualized and use year-to-date average assets or average earningassets in the denominator. Nonperorming loans are those 90 days or more past due orin nonaccrual status.
continued on Page 7 
Central Banker
 
Summer 2010| 
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