Not yet a year old, First Bank Inc. of Louisville, Ky., is jumping into an increasingly hot market: lending to homebuyers with spotty credit histories.
Last week it hired an experienced local lender to serve consumers in the subprime mortgage market, said Joe B. Baily, chief executive officer.
"We want to fill a niche of folks who, for a host of reasons," don't have perfect credit histories, Mr. Bailey said.
First Bank, which has about $30 million of assets, isn't alone. Anxious to break into high-yielding lines of business, a growing number of small banks have been targeting homebuyers who have had credit problems.
"I've heard from quite a few community banks that are exploring this," said Chris Hargrove, president of Professional Bank Services Inc., a Louisville, Ky., consultancy. "They want to get a higher rate."
The move by small banks is indicative of a more interest in the subprime mortgage market by all sorts of financial providers, as competition drives down the profit margins of traditional mortgage lending.
"You're seeing all kinds of lenders trying to get into this," said George Yacik, vice president of SMR Research, a home equity research firm based in Budd Lake, N.J. "It tends to be a bit more profitable than conventional mortgage lending."
Community banks are approaching the niche in variety of ways.
Working through its mortgage subsidiary, First Bank intends to make one- to three-year balloon mortgage loans to homebuyers with less than stellar credit, Mr. Bailey said. The bank will reevaluate the borrowers' creditworthiness at the end of the term.
If a borrower's rating has improved, the bank will offer the homeowner a traditional mortgage and sell it on the secondary market.
This way, the bank stands to profit from high rates on the initial loan as well as from fee income from the traditional mortgage.
Mr. Bailey said the bank will be building loan-loss reserves adequately enough to satisfy examiners.
"We're not going to be lending to people who don't deserve money," he said.
Bank of Yorba Linda in California has been lending to subprime borrowers for six years. The $130 million-asset bank generates loans through a network of about 50 brokers in California, Utah, and Washington and sells them on the growing subprime mortgage secondary market.
The underwriting and monitoring for subprime mortgages is far more intensive than for typical bank loans, said Robert Ucciferri, chief executive officer of Bank of Yorba Linda, which originated $89 million in such credits last year.
"This is like electricity," he said. "If you don't know what the hell you're doing, you're going to get burned."
A look at third quarter 1996 call report data for Bank of Yorba Linda indicates this line of business isn't for everyone.
While the bank's 1.21% return on assets was slightly below its peer group average, its 3.63% ratio of nonperforming loans to total loans was higher than 91% of similarly sized banks, according to figures from Sheshunoff Information Services.
Community banks that are intimidated by the risks of the business are teaming up with companies more familiar with it.
For example, 18 community banks refer subprime customers to New Jersey Mortgage and Investment Corp. The Roseland, N.J., mortgage banking firm reimburses the banks for the referrals.
Community First Bankshares, Fargo, N.D., broke into the business last year by acquiring a company.
By purchasing Mountain Parks Financial Corp., Kremmling, Colo., Community First also picked up Equity Lending Inc., a subprime home equity lender with six offices and about $70 million in outstandings.
"We had been looking at that kind of asset-generating ability, so it was an attractive asset of the bank," said Donald R. Mengedoth, chief executive officer of $3.1 billion-asset Community First.