Third Quarter 2016:
Board/ALCO Background Review

Andy Neid Best Practices, idea5 Discoveries, Strategic Planning 0 Comments

This analysis refers to information and graphs provided separately as a pdf. Click the thumbnail or click here to access the pdf.

National Trends (Slides 1-12):

If you at all have been listening to the presidential debates, you might have heard: “America doesn’t win anymore. We keep doing bad deals with the rest of the world. It is time to make America great again.” Well, no matter which side you agree with, the vast majority of Americans see the upcoming presidential election as the single greatest threat to the country’s well-being, according to a new report published by Bankrate. About 6 in 10 Democrats and 7 in 10 Republicans said “the outcome of the presidential election” would be the “biggest threat to the U.S. economy over the next six months” out of more than 1,000 respondents surveyed in Bankrate’s latest poll. Similar to past elections, any election year brings with it a sense of uncertainty. It just seems like this one in particular has both sides of the ticket on edge during such an ambiguous time. Is the economy as bad as Trump has indicated? I think the verdict is still out depending on who you believe.

The U.S. economy did grow at a faster pace than previously thought during April, May, and June, though the expansion speed was still anything but breakneck. Based on the latest revisions, GDP grew at a clip of 1.4%, slightly higher from a previously reported 1.1%. The revisions don’t change much of the economic narrative – analysts earlier in the year had still expected second-quarter growth to clock in north of 2%, so a 1.4% pace is still in many senses underwhelming. But the revisions show a slight improvement in key areas like business investment and trade, offering a bit more optimism about the economy’s current state of affairs.

The number of Americans filing for unemployment benefits rose more than expected, but remained below a level that is associated with a strong labor market. Initial claims for state unemployment benefits increased by 13,000 to a seasonally adjusted 260,000 for the week ended Oct. 15. Unemployment, currently stands at 5% compared to 4.9% in August. As for housing, September’s housing starts came in 9% below August and 12% below last year, but those drops belie a huge improvement for the market. Those numbers are totals, based on both single-family homes, which are desperately needed, and multifamily apartments, which have seen a construction boom over the last three years. Single-family home construction, which is what the housing market greatly needs, rose 8% for the month and 5% from a year ago. That is a positive for a sector that has been wildly conservative following the worst crash in history.

The Consumer Confidence index, which had increased in August, improved further in September. The index now stands at 104.1, up from 101.8 in August. “Consumer confidence increased in September for a second consecutive month and is now at its highest level since the recession,” said Lynn Franco, Director of Economic Indicators at The Conference Board. “Consumers’ assessment of present-day conditions improved, primarily the result of a more positive view of the labor market. Looking ahead, consumers are more upbeat about the short-term employment outlook, but somewhat neutral about business conditions and income prospects. Overall, consumers continue to rate current conditions favorably and foresee moderate economic expansion in the months ahead.”

After declining in August, the Institute for Supply Management reported its index of manufacturing activity rose to 51.5 in September from 49.4 in August. A good sign for entering the final months of the year. A reading above 50 indicates that factory activity is expanding while a reading below 50 signals contraction.

As for the Fed, your guess is as good as mine. In a recent speech made by Janet Yellen, the Federal Reserve chairwoman did not talk about its plan for its benchmark interest rate, instead she talked about why those plans have been so hard to make. Ms. Yellen said the Fed was struggling to understand the behavior of the labor market and the weakness of inflation. The Fed has indicated it is likely to raise rates in December if economic growth continues, although it has repeatedly retreated from similar predictions in the last nine months. The wait along with the debate continues into the fourth quarter.

Financial Institutions: (Slides 13-28):

Growth
For the second quarter of 2016, total assets for all financial institutions under $10 billion in assets have grown 2.9% since the end of 2015 and 5.5% since the second quarter of 2015. Broken down by asset size, commercial banks between $1 and $10 billion in assets continue to lead the pack growing 4.2% so far this year and 8.3% over the last 4 quarters. Credit Unions under $10 billion followed with 3.9% growth for the quarter and 6.9% year over year. For both commercial banks under $1 billion in assets and savings institutions under $10 billion in assets the growth is not as impressive. Commercial banks continue to grow at an annual rate of less than 1% while the savings institutions grew 1.6% over the last year. The good news for these institutions is that loan growth has been positive over the last 4 quarters. For commercial banks less than $1 billion, loan growth since the second quarter of 2015 was 4.2% while for savings institutions it was 5.9% compared to over 8.3% growth for all credit unions and commercial banks between $1 billion and $10 billion. As for deposit growth, it remained steady averaging 4.8% year-over-year for the entire industry under $10 billion in assets – a slight uptick from last quarter’s 4.2% annual growth.

Earnings
Since the beginning of 2015, margins have remained relatively flat with the biggest improvement for commercial banks less than $1 billion in assets. Their current margin of 3.8% has improved 6 bps compared to 5 bps improvement for credit unions. As for overall profitability, quarterly income declined 1.7% compared to the second quarter of 2015, but YTD income has improved 1.4%. With that said, commercial banks under $1 billion in assets is the only sector that has seen an increase in YTD profitability. Their YTD income is 9.7% higher than the second quarter of last year while it remains negative for all other institution types. As mentioned last quarter, the main culprit to the decline of profitability for the majority of sectors besides commercial banks under $1 billion was the “uptick” in provision expense which had seen only an increase for credit unions. Last quarter we reported that credit unions had seen an increase in provision expense of 39% compared to just 8% for banks. Now, credit unions still average 38% increase in YTD provision while banks have increased their provision expense 31% compared to the same time last year.

Ratios
The Capital to Asset ratio for the industry continues to be strong with ratios above 10.9% for all institutions while the loan to deposit ratios remained relatively flat compared to 2015. Credit unions and commercial banks less than $1 billion in assets continue to experience a loan to deposit ratio less than 80% while commercial banks between $1 billion and $10 billion and all savings institutions have rates above 80%. These rates have remained relatively constant since the end of 2014.

Future
Looking beyond 2016, banks and credit unions continue to face challenges in several areas beyond low interest rates, regulatory pressures, and even the outcome of the November election. As we mentioned in our Strategic Top 10 discussions topics , community financial institutions face pressure to grow in a market where advances in technology have changed consumer expectations, have brought new competitors to the market (e.g., FinTech companies such as Apple with Apple Pay) and have heightened security concerns.

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