American Banker recently gathered four panelists — Fred Cannon at KBW Inc., Scott Siefers at Sandler O'Neill & Partners LP, Joe Stilwell at Stilwell Group and Brad Whitman at Barclays Capital — to discuss the year ahead for community banks. This is an excerpt of the wide-ranging discussion.
How are community banks positioned headed into 2012?
SCOTT SIEFERS: I'm afraid it's not getting any easier. On the plus side there's the systemic recapitalization we've seen over the last couple of years, and credit trends continue to improve. Having said that, the smaller you go in the banking space, the more spread-dependent you are and the less diversified your revenue stream is. The smaller banks also tend to have more real estate exposure. Given the flat shape of the yield curve, the fact that the economy isn't progressing nearly as strongly as we would hope, it's going to be a tough environment over the next year at least.
FRED CANNON: For community banks, it's certainly a tough operating environment. The Fed promising to be on hold through 2013 means there's little aspect for relief in interest margins and rates. The credit recovery we've seen is starting to wane … so really it's all about profitability at this point, and that's a tough picture.
Are small banks better off growing or shrinking loans?
JOE STILWELL: As an investor, what you want to make sure happens is that growth doesn't take place for the sake of growth. You're looking for intelligent growth. It's hard right now. I think the Fed's zero interest rate policy is causing a lot of the more creditworthy small businesses to just pay down loans. One of the best things we're seeing is controlled shrinkage, where [banks] are paying off higher-cost liabilities, particularly with some of the borrowings and moving back towards more of a core business.
SIEFERS: One of the big misconceptions about this recovery is that banks are very hesitant to lend. I think in many cases they're quite willing, but there's just not a lot of creditworthy borrowers. On the supply side, it's very difficult to commit capital when you don't know what the rules are going to be. So there are frustrations on the supply and the demand side.
BRAD WHITMAN: As securities are running off and you're trying to replace it with more attractive securities, they're just not out there. How do you find attractive loans? C&I seems to be one place people look. Fee income is another place. But getting that most favorable match for any given institution is tough. It's very hard to see when this is going to free up. Net interest margin compression … looks like it will be the story for the next couple of quarters.
When will deposits start to benefit banks again?
STILWELL: You can still find an awful lot of institutions that have higher-cost borrowings on the balance sheet, which they probably have no business having in the first place, but they were just playing bond market with the securities portfolio. To the extent they're taking deposits in, the sticky deposits will always have a value.
SIEFERS: I'm not aware of any community banks … looking to turn away deposits. It's certainly a real problem for net interest income growth, just to have this excess liquidity with nowhere to go. It is tempting to reach out over your skis from a risk standpoint, given that you are so awash in liquidity. The value will be realized either in a sale or in a more accommodating rate environment. Unfortunately, we might have to wait a while for that rate environment to reveal itself.
Where should small banks look to find fee income?
SIEFERS: I would say asset and wealth management. I don't necessarily want to see them getting into the more esoteric businesses, such as getting really heavy in the capital markets or investment banking. Wealth and asset management are pretty easy ones. You already have relationships on the small-business side. To the extent that you can develop at least some capability there, that's always struck me as the most logical one. It's really tough to make a critical error with smaller bolt-on businesses. There are risks to it, but they tend to be contained.
WHITMAN: It's definitely logical. A lot of our client base is talking about it and asking us about how they get into that business. High-margin business, low capital requirements, they make sense. Do you build them organically or through small M&A trades? You can do it organically, but it does take some time to build that expertise.
As we've been saying in all aspects of the business these days, pricing becomes difficult [to buy into a business]. It sounds good. The execution, I think, is pretty tough in this environment.
We've seen more branch and bulk loan sales at good prices. What does this say about M&A?