In the last two years, bankers have been under nonstop attack in the form of plunging real estate values, disappearing credit quality, regulatory capital shortages, a hostile Congress and a hostile press.
Bankers have had a battlefield mentality — performing triage as each crisis emerged and leaving strategic planning to those who believed they had a future to plan.
Many banks are still struggling or waiting for regulators to walk in the door. But a considerable number are emerging stronger and wiser than before. They have made it through, but what now?
Though most were preoccupied with survival, the United States saw the emergence of coast-to-coast, "national" banks. At least three — Chase, Wells and Bank of America — will have unprecedented benefits of scale, technology, marketing and footprint. Some see banking going the way of retailing after the advent of Target and Wal-Mart, big box providers that knocked out woefully inefficient competitors. With no more barriers to geographic competition, community bankers are faced with behemoths in their markets.
Community banks long ago ceded commercial and industrial lending to larger banks in favor of what was considered less risky secured real estate lending. We all know how that turned out. As real estate values stabilize, secured lending will return, but regulators and portfolio managers agree that much greater diversification is needed than before to avert another financial Armageddon. Most community banks lack the experience or internal talent to diversify effectively into new areas or to calculate the costs and risks associated with such expansion.
There is no relief on the revenue side, and costs continue to reduce margins. Congress, the press and regulators have made bank pricing a scapegoat for the financial crisis, and recent and proposed regulatory actions have crimped debit, credit and overdraft fees. All actions have unanticipated and sometimes unintended consequences, but right or wrong, our industry is going to have to live with them. The lost margins will have to be made up to satisfy the needs of stockholders' capital, but just who makes the first move and where is far from known.
The same forces that led to questionable regulatory changes have also targeted bank executive compensation. Longer-term bonus schedules, along with potential clawbacks, have put management in the risk position of stockholders. The laws of economics generally dictate that greater risk is met with an opportunity for greater return. This parity is far from clear in the new compensation schedules. How will this shifting of risk affect recruitment and retention of top-caliber executives? And just what is in the shareholders' best interest?
Historically, many banks disregarded risk-rated pricing and ignored capital allocation disciplines. It was not unusual for bankers to price and allocate capital using the back of an envelope. For decades spreads were wide enough to forgive the inevitable mistakes.
Banks where the top 20% of customers overcompensated for the 80% who undercompensated were not unusual. Many commercial banks rarely asked a customer to leave if the profitability of the account was underwater. Those days are gone. Capital is scarce, and every penny must be put to work.
The syndication game has changed too. Capital scarcity and yield demands encouraged underwriting, booking and sell-downs. Banks willingly lined up as "stuffees," seeing loans purchased as low-cost origination opportunities. Many participants did not think through the incentives and motivations for this type of lending and got badly burned. As a result, many banks have reverted to self-originated loans only. What will this mean for lead agency roles when dealing with borrowers that require more than individual bank lending limits?
Some of the best lessons of the past two years have been learned in risk management. Bankers and regulators joyfully embraced risk modeling. The computer models and mathematics turned out to do a much better job of telling us where we had been than where we were going. For all the sophistication these methods brought to portfolio management, it turns out that nothing does quite as good a job as common sense. Remember "character," "location," "diversification" and "management capacity"?
There is hope on the horizon, but the way forward is far from clear.
New strategies must be developed. Going back to business as usual would be a disaster. So let us begin this New Year with a toast to learning from the past and to rebuilding confidence in a banking system whose strength will come not only from big box banks but also from banks in communities around the country that are led and managed by those who are known — and are committed — to the customers they serve.
David J. Rudis was the national checking and debit products executive, as well as Illinois president, at Bank of America Corp. after it bought LaSalle Bank, where he was president of the consumer bank.
