One of our strategic initiatives is to move our loan process to a digitally credit scored and processed model. The concept, which we explained in a previous blog post HERE is to better match resources with risk, and in so doing become more efficient for our customer and the Bank. Our old process was to apply similar underwriting and credit review process to every loan. This structure made loans below $400,000 often unprofitable.
The absolute level of interest rates is an important factor in bank profitability because of the carry trade in commercial banking. Here, whether banks admit it or not, a material amount of the return is driven off speculation of interest rates and liquidity.
Happy B-day ATM! Today marks the 50th anniversary of the automated teller machine (ATM). This first banking robot was rolled out on this day in 1967 by Barclays in their central London branch. The ATM revolutionized both the operations of banking and the banking psychology of the public. Prior to the ATM, it was common practice to both wait in line to deposit your paycheck and also go to the branch every Friday to withdrawal enough cash for the weekend.
When it comes to underwriting, it is not so much the risk that causes banks concern, but the volatility around the risk that is the problem. The major industry with the highest probability of default for banks is trucking at a 4.7% annual probability of default, but if you price and reserve for 1.4% of the loan, you have mitigated that risk. That is, lending to a trucking company is no more risky as lending to a pig farmer, which incidentally has the lowest probability of default as of June of 2017 at 0.95% and would require pricing and a reserve of about 0.29%.
As we have said before, every bank pays for growth. The most obvious case is when a bank hires staff to bring in and service new customers. Marketing, new branches, technology, capital and many other items all contribute to a bank’s growth and are all investments in growth that are often made. In fact, the need to grow is probably the single biggest driver for bank CEOs. While many bank managers say “shareholder return” is their number one priority, their actions speak otherwise.
Our lending strategies have recently changed. In the last six months, the FOMC has raised interest rates by 75 basis points, and FOMC members project another increase in September 2017. That is a total of 100bps increase over a 12 month period, with another 100bps projected over the next 12 months after that. Meanwhile, long-term rates (both five-year and ten-year) have decreased by approximately 30bps in the last six months.
And this is why we don't trust polls... We have beta tested AI opening accounts and the worst thing that happened is that it didn't open the account. I am not sure you can say that for opening a parachute or for heart surgery. This is crazy talk!
Person-to-person (P2P) payment service, Zelle, goes live over the next week and is being introduced into the market by more than 30 major financial institutions including Bank of America, Chase, US Bank, Capital One and Wells Fargo. Operated by a bank partnership, the technology will be incorporated into many bank’s online and mobile applications and will displace Paypal’s Venmo, Square Cash and P2P integrations in both Facebook and Apple’s ecosystem.
Many community banks don’t underwrite with enough granularity to take into account major differences in credit between borrowers. This can hurt banks as credit spreads get tighter and banks add even more leverage to their balance sheets. When banks underwrite a particular borrower, the actual probability of default is usually within a defined range. Some industries, such as banking itself, have a very homogeneous set of companies.
Financials rank fifth at $650k per employee and banks are at the bottom of that spectrum with revenue per FTE around $350k.
Data from Craft.co and graphics from the Visual Capitalist. The complete analysis can be found HERE.
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