Community Banks Weathering Recession Better Than Big Banks

Federal oversight agencies and regulators have repeatedly warned that failures of small and mid-sized banks are expected to escalate. While many have gotten a handle on problems arising from the housing crisis,

top officials have said losses from defaults on commercial real estate loans maturing in the next few years now threaten to topple nearly 3,000 of the nation’s community banks.

It’s true that bank failures and government seizures continue at a pace not seen since the savings and loan (S&L) crisis of the 1990s. Already this year, 50 banks have been forced to shut their doors, after 140 went under in 2009. Despite all the debris in the headlines, a new study shows that community banks appear better positioned to weather further economic deterioration than their larger competitors.

The study, conducted by the Minneapolis-based bank consulting firm the BrandBank, examined financial data reported to the FDIC over the last five quarters from more than 8,000 institutions. The company found that banks with less than $1 billion in assets are “significantly better capitalized” and have set aside larger capital reserves for potential credit losses than banks with over $1 billion in assets.

“The data is pretty convincing and it shows that most community banks have reacted proactively to this crisis,” said Tom Grady, the study’s author and the BrandBank’s co-founder. “Community banks not only have more capital to support their institutions through this recession but they’ve set aside significantly more loan-loss reserves in case their portfolio performance worsens. They appear to have taken a much more conservative approach to this credit crisis than larger banks.”

The BrandBank compared the performance and overall health of large and small banks, based on a number of financial characteristics, including Tier 1 capital, loan quality, leverage ratio, and cushions for future loan losses. Grady says the conclusions are significant.

“On average, community banks appear to be more stable simply because they have more capital, higher margins, better loan performance, and larger loan-loss reserves already set aside,” he said. “This does not diminish the fact that community banks will continue to fail. However, the data indicates that, all things being equal, the larger institutions might encounter trouble sooner than smaller institutions.”

The report coincides with April’s Community Banking Month, a national designation honoring the 7,000 U.S. community banks.

Grady says the public’s anger with the banking industry as a whole is misplaced. “Federal bailouts and TARP money did not go to community banks,” he said. “Granted, a very small percentage of community banks paid the price for being too aggressive. But the overwhelming majority of community banks are well-run, conservative businesses. As a result, their loan performance is better, capital supplies are deeper, and they’re well positioned to grow,” Grady said.

The BrandBank’s breakdown of how community banks fared against their larger counterparts in each category can be found on the company’s Web site.