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FIN 653: Seminar in Bank Management Lecture 1.1: Recent Bank Developments Yea-Mow Chen Department of Finance San Francisco State University I. Recent Bank Developments I. Recent Bank Developments I. Recent Bank Performance I. Recent Bank Performance I. Recent Bank Performance

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FIN 653: Seminar in Bank Management

Lecture 1.1:

Recent Bank Developments

Yea-Mow Chen

Department of Finance

San Francisco State University


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I. Recent Bank Developments


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I. Recent Bank Developments


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance

  • Bank Profitability Stabilized in the 90s

  • ROA of Different Size Banks, 1990-2000

  • All $0m-$100m$1b-$10b

  • Year Banks$100m-$1b-$10band above

  • ____________________________________________________

  • 19900.49%0.79%0.780.76%0.38%

  • 19910.540.830.830.540.44

  • 19920.951.081.050.950.92

  • 19931.221.161.191.331.24

  • 19941.171.161.221.191.17

  • 19951.171.181.251.281.10

  • 19961.191.231.291.311.10

  • 19971.241.251.391.301.18

  • 19981.191.141.311.521.08

  • 19991.311.011.341.481.28

  • 20001.191.011.281.291.16

  • 20011.15

  • 2002

  • 20031.40

  • 2004________1.31________________________________________________


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I. Recent Bank Performance

  • Bank Profitability Stabilized in the 90s

  • ROE of Different Size Banks, 1990-2000

  • All $0m-$100m$1b-$10b

  • Year Banks$100m-$1b-$10band above

  • ____________________________________________________

  • 19907.64%9.02%9.9510.25%6.68%

  • 19918.059.4010.517.507.35

  • 199213.2411.9312.6012.5213.86

  • 199315.6712.2913.6114.0216.81

  • 199414.9012.0113.4914.1915.73

  • 199514.6811.3713.4815.0415.60

  • 199614.4011.6913.6314.8214.93

  • 199714.7111.5714.5014.3015.32

  • 199813.9510.1513.5715.9613.82

  • 199915.349.0714.2416.0215.97

  • 200014.079.0913.5614.5714.42

  • ________________________________________________________


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance


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I. Recent Bank Performance

The Increased Concentration in U.S. Banking ( trillions of 1999 dollars)

  • 1990 1993 1996 1999

  • _________________________________________________________

  • Number of banks 12,370 11,001 9,576 8,698

  • Total assets $4.22 $4.23 $4.80 $5.47

  • % held by fifty largest BHCs 55.3 %59.7 %66.6 % 68.1%

  • %held by ten largest BHCs 25.6 %31.6 % 38.5 % 44.8 %

  • Total domestic deposits$2.93 $2.76 $2.85 $3.08

  • % held by fifty largest BHCs48.0% 51.4% 56.9% 58.2%

  • % held by ten largest BHCs17.3 % 22.0 % 26.2 % 33.6 %

  • _________________________________________________________

  • Source: Consolidated Reports of Condition and Income, 1990-99.


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II. Recent Banking Trends

  • 1. Deregulation/Re-regulation

  • Regulations took many forms including:

    • Maximum interest rates that could be paid on deposits or charged on loans;

    • Minimum capital-to-asset ratios;

    • Minimum legal reserve requirements;

    • Limited geographic markets for full-service banking;

    • Constraints on the type of investments permitted, and restrictions on the range of products and services offered.


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II. Recent Banking Trends

  • 1. Deregulation/Re-regulation

  • CAMELS System:

  • Capital

  • Asset Quality

  • Management Quality

  • Earning Quality

  • Liquidity

  • Sensitivity to Market Risk


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II. Recent Banking Trends

  • 1. Deregulation/Re-regulation

  • Banks and other market participants have consistently restructured their operations to circumvent regulation and meet perceived customer need.

  • In response, regulators or lawmakers would impose new restrictions, which market participants circumvented again.

  • This process of regulation and market response (financial innovation) and imposition of new regulations (re-regulation) is the regulatory dialectic.


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II. Recent Banking Trends

  • 1. Deregulation/Re-regulation

  • Today banks are accessing the formerly forbidden areas of investment banking, by the repeal of the Glass-Steagall Act via the Financial Services Modernization Act (Gramm-Leach-Bliley Act of 1999).


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II. Recent Banking Trends

  • 1. Deregulation/Re-regulation

  • Efforts at deregulation and re-regulation generally address:

    • Pricing issues: removing price controls on the maximum interest rates paid to depositories and the rate charged to borrowers (usury ceilings).

    • Allowable geographic market penetration: The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 has eliminated branching restrictions.

    • New Products and services: Gramm-Leach-Bliley Act of 1999 has dramatically expanded the banks’ product choices; i.e., insurance, brokerage services, and securities underwriting.


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II. Recent Banking Trends

  • Shortcomings of Current Banking Regulations:

    • Does not prevent bank failures

    • Cannot eliminate economic risk

    • Does not guarantee that bank management will make good decisions


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II. Recent Banking Trends

  • 2. Rising Competition from other Financial Services Companies:

    • Non-bank financial institutions especially finance companies, foreign institutions, and the public capital markets, have increased their market share in commercial lending at the expense of domestic commercial banks.

    • Non-financial institutions, such as Sears, AT&T, and General Motors, have increased their market share in consumer lending at the expense of the banks.


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II. Recent Banking Trends

  • 2. Rising Competition from other Financial Services Companies:

    • Competition for deposits

    • Competition for loans

    • Competition for payment services

    • Competition for other financial services


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II. Recent Banking Trends

  • Competition for deposits

    • MMMFs were created by investment banks in 1973 and grew from $10.4 b in 1978 to almost $189 b in 1981.

    • Congress passed legislation enabling banks and thrifts to offer similar accounts including money market deposit accounts (MMDAs) and Super NOWS.

  • Competition for loans comes in many forms:

    • Commercial paper

    • Captive automobile finance companies

    • Other finance companies

    • Junk bonds


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II. Recent Banking Trends

  • Competition for payment services is coming from emerging electronic payment systems, such as:

    • Smart and stored-value cards

    • Automatic bill payment

    • Bill presentment processing

    • Cash money can be acquired at any teller machine

    • Open a checking account, apply for a loan and receive funds electronically


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II. Recent Banking Trends

  • Competition for investment banking services:

    • National Full-Line Firms

    • Investment Banking Firms

    • Underwriter

      • Underwriter syndicate

    • Broker versus Dealer


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II. Recent Banking Trends

  • Competition for other financial services:

    • Trust services

    • Brokerage

    • Data Processing

    • Securities underwriting

    • Real estate appraisal

    • Credit life insurance

    • Personal financial consulting


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II. Recent Banking Trends

  • 3. Financial Innovation

  • Innovations take the form of new securities and financial markets, new products and services, new organizational forms, and new delivery systems.

    • Regulation Q brought about financial innovation as depository institutions tried to slow disintermediation.

    • Banks developed new vehicles to compete with Treasury bills, money market mutual funds, and cash management accounts.

    • Recent innovations take the form of new futures, options, options-on-futures, and the development of markets for a wide range of securitized assets.


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II. Recent Banking Trends

  • 3. Financial Innovation

  • One competitive response to asset quality problems and earnings pressure has been to substitute fee income for interest income by offering more fee-based services.

  • Banks also lower their capital requirements and reduce credit risk by selling assets and servicing the payments between borrower and lender rather than holding the same assets to earn interest.

  • This process of converting assets into marketable securities is called securitization.


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II. Recent Banking Trends

  • 4. Off-Balance-Sheet Activities

  • Loan Commitments

  • Loan guarantees

  • Standby Letters of Credit

  • Interest Rate Swaps

  • Futures, Forwards & Options

  • Leases


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II. Recent Banking Trends


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II. Recent Banking Trends


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II. Recent Banking Trends

  • Securitization

  • Securitization is the process of converting assets into marketable securities.

  • It enables banks to move assets off-balance-sheet and increase fee income.

  • It increases competition for standardized produces such as mortgages and other cerdit-scored loans.


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II. Recent Banking Trends

  • Securitization

  • Benefits to financial institutions:

    • Free capital for other uses

    • Improve ROE via servicing income

    • Diversify credit risk

    • Obtain new sources of liquidity

    • Reduce interest rate risk


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II. Recent Banking Trends

  • 5. Information Technology and Banking

  • (1). New technology had made offering new products available:

    • Securitization would not be possible without the servicing software that controls and monitors cash flows.

    • Investors trade pools of credit card loans because they can assess default risk without knowing the creditworthiness of each borrower.

    • Swaps, swaptions, collars and caps are feasible and easier to use because computer pricing models narrow the bounds of mispricing and other errors.


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II. Recent Banking Trends

  • (2). Derivative products for risk management: Banks' risk management has been improved with the striking advances in information technology:

    • Artificial intelligence software can narrow the role of human judgment in the management of credit risk.

  • (3). Internet banking had reduced costs substantially;

  • (4). New technology had relaxed the geographical market and product constraints, which led to a greater market consolidation.


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II. Recent Banking Trends

  • (5). But low-cost information is a double-edged sword:

    • 1. If loans are more liquid, then banks' private information about these loans and their role in monitoring the loans are both diminished.

    • 2. If loans are securitized, any broker should be able to pool loans, issue traded claims against the pool, collecting interest and principal, and disbursing it to claim-holders.

    • 3. If the bank's clients can manage interest risk with derivatives, why should they pay the bank for such protection?


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II. Recent Banking Trends

  • 6. Globalization

  • The gradual evolution of markets and institutions so that geographic boundaries do not restrict financial transactions.

  • Firms must recognize that businesses in other countries as well as their own are competitors, and that international events affect domestic operations.


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II. Recent Banking Trends

  • The 20 largest banks in the world, July 1, 2004


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II. Recent Banking Trends

  • The 20 largest banks in the world, July 1, 2004


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