Core Profitability Trends in Community Banking: Insights from Research
Explore the core profitability of community banks from 1985 to 2015 through a study conducted by Jared Fronk at the Federal Deposit Insurance Corporation. The research delves into the factors influencing profitability, key conclusions, and a cautionary note on the limitations of the analysis.
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Core Profitability of Community Banks 1985-2015 Jared Fronk Federal Deposit Insurance Corporation
Disclaimer The views here expressed are those of the author and no not necessarily reflect the official positions of the Federal Deposit Insurance Corporation.
Research Question To what extent is community banking profitability a function of external factors? Profitability: industry-average pretax return on assets
Caveats Does not predict individual bank performance Does not estimate the impact of regulation or any other unmeasured factor Results are dependent on the sample period
Key Conclusions 1985-2015: 65% of deviation from core ROA can be attributed to economic factors. Post-financial crisis: 80% explained by econonomic factors Crisis and recession effects have been persistent, but are now fading Core profitability declined from 1990 to 2008, but has since trended upward Core profitability has returned to its historical average
Appendix 1.1: Attrition Correction Model ??,?= ?0+?1????,?+?2??? ???????,? 1+?3???????,? 1+?4????????????,? 1 +?5????????????????,? 1+?6??????????????????,? 1+?6?????????????,? 1 +?7?????????????,? 1+?8???????? ?,? 1+?9????????????,? 1 +?10?&???????????,? 1+?11??????????????????????,? 1 +?12????????????????????,? 1+?13????????????,? 1 +?14???????????????????,? 1+??,?
Table A: 1st Stage Regression Results Region Variable National New York Atlanta Chicago Kansas City Dallas San Francisco Age 0.002 0.002 0.001 0.001 0.002 0.002 0.001 (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.001) Pretax ROA 0.080 0.076 0.063 0.086 0.082 0.095 0.049 (0.003) (0.009) (0.009) (0.009) (0.011) (0.008) (0.009) Assets 0.002 0.002 0.000 0.008 0.016 0.002 0.005 (0.000) (0.001) (0.002) (0.002) (0.003) (0.001) (0.002) Liabilities -0.003 -0.003 -0.001 -0.010 -0.019 -0.004 -0.006 (0.000) (0.001) (0.002) (0.002) (0.003) (0.002) (0.002) Loan to Net Income Ratio 0.005 0.006 0.018 0.021 0.034 0.039 0.010 (0.001) (0.003) (0.005) (0.006) (0.010) (0.005) (0.005) Net Interest Margin -0.004 -0.009 -0.032 -0.016 0.017 0.055 -0.080 (0.005) (0.022) (0.019) (0.024) (0.021) (0.018) (0.024) Expense Ratio -0.016 -0.002 -0.019 0.019 0.016 -0.017 -0.013 (0.003) (0.016) (0.015) (0.019) (0.011) (0.009) (0.012) State Unemployment 0.000 0.001 0.002 0.001 0.001 0.001 0.002 (0.000) (0.001) (0.000) (0.000) (0.001) (0.000) (0.001) State GSP Growth 0.059 0.071 0.193* 0.140** 0.124* 0.131 0.088 (0.007) (0.020) (0.030) (0.028) (0.030) (0.020) (0.021) Ag Loans to Assets Ratio 0.627*** 28.604*** 5.898*** 1.697*** 0.263*** 1.042*** 1.694*** (0.085) (22.343) (1.540) (0.337) (0.141) (0.270) (0.594) C&I Loans to Assets Ratio -0.114*** -0.479*** -0.579*** -0.691*** -0.276*** -0.313*** 0.018 (0.071) (0.219) (0.242) (0.182) (0.195) (0.166) (0.224) Consumer Loans to Assets Ratio 0.442*** 0.130* 1.689*** 0.320*** 0.846*** 0.240*** 1.061*** (0.111) (0.307) (0.443) (0.313) (0.358) (0.225) (0.699) Credit Card Loans to Assets Ratio 2.316*** 33.807*** 55.297*** 32.372*** 12.924*** 14.879*** 6.761*** (1.885) (23.827) (16.997) (8.014) (7.308) (8.020) (5.854) Real Estate Loans to Assets Ratio -0.095** 0.345*** -0.490*** -0.142* -0.167*** -0.235*** -0.091 (0.034) (0.098) (0.108) (0.086) (0.094) (0.077) (0.130) Earning Assets Ratio 2.583*** 3.036*** 3.006*** 2.779*** 3.219*** 2.422*** 2.014*** (0.129) (0.405) (0.392) (0.361) (0.388) (0.312) (0.388) Adjusted R2 0.08 0.13 0.14 0.11 0.12 0.13 0.15 Number of Observations 304,948 35,745 38,563 67,631 71,617 68,809 22,541 Note: Robust standard errors clustered at the bank level. Constant term included but ommitted from table. All variables, except age, represent lagged values. * Significant at the 10% level; ** Significant at the 5% level; *** Significant at the 1% level
Appendix 1.2: Primary Regression Model ?????=?0+?1?????????????,?+?2???????? ?,?+?3???????,?+?4?????????????,? +?5??????????,?+?6?????????????,? 1+?7???????? ?,? 1+?8???????,? 1 +?9?????????????,? 1+?10??????????,? 1+?11?????????????,? 1+??+??,?
Table 1: Main Regression Results. Dependent Variable: Pre-tax Return on Assets Region Variable National New York Atlanta Chicago Kansas City Dallas San Francisco Unemployment -0.273*** -0.344*** -0.301*** -0.175*** -0.281*** -0.228*** -0.273*** (0.007) (0.025) (0.019) (0.010) (0.013) (0.014) (0.007) GSP Growth 0.021*** 0.045*** 0.063*** 0.026*** 0.004** 0.023*** 0.021*** (0.001) (0.006) (0.006) (0.003) (0.002) (0.002) (0.001) Spread 0.049*** 0.050*** 0.036 0.054*** 0.062*** 0.074*** 0.049*** (0.006) (0.015) (0.031) (0.007) (0.006) (0.017) (0.006) Interest Rate -0.014* -0.047** 0.025 -0.048*** 0.148*** -0.120*** -0.014* (0.008) (0.022) (0.040) (0.009) (0.011) (0.017) (0.008) -0.001*** -0.001 -0.003** 0.002*** -0.004*** 0.002*** -0.001*** Deviation from Interest Rate Trend (0.000) (0.001) (0.001) (0.000) (0.000) (0.000) (0.000) Unemployment, Lagged 0.040*** 0.188*** 0.113*** -0.013 -0.009 -0.097*** 0.040*** (0.006) (0.022) (0.014) (0.008) (0.010) (0.011) (0.006) GSP Growth, Lagged 0.029*** 0.018*** 0.052*** 0.005** 0.008*** 0.037*** 0.029*** (0.001) (0.005) (0.008) (0.002) (0.002) (0.003) (0.001) Spread, Lagged 0.163*** 0.191*** 0.125*** 0.129*** 0.124*** 0.262*** 0.163*** (0.006) (0.027) (0.019) (0.007) (0.006) (0.013) (0.006) Interest Rate, Lagged 0.050*** 0.091*** -0.017 0.109*** -0.113*** 0.191*** 0.050*** (0.008) (0.021) (0.040) (0.009) (0.011) (0.017) (0.008) -0.004*** -0.005*** -0.005*** -0.002*** -0.001*** -0.006*** -0.004*** Deviation from Interest Rate Trend, Lagged (0.000) (0.000) (0.002) (0.000) (0.000) (0.000) (0.000) Inverse Mills Ratio -21.238*** -8.376*** -11.224* -8.971*** -11.952*** -17.542*** -21.238*** (1.839) (1.343) (6.120) (1.242) (1.662) (1.800) (1.839) Adjusted R2 0.19 0.05 0.07 0.09 0.18 0.24 0.09 Number of Observations 304,948 35,745 38,563 67,631 71,617 68,809 22,541 Note: All regressions include bank fixed effects. Robust standard errors clustered at the bank level. All variables measured in deviations from the mean. Constant term included but ommitted from table. * Significant at the 10% level; ** Significant at the 5% level; *** Significant at the 1% level
Appendix 2.1: Summary Statistics Table 2: Summary Statistics N Mean Std. Dev. 1.01 5.84 5.14 1.48 6.11 4.48 Min Median 1.26 5.54 5.23 1.62 6.35 -4.81 Max Return on Assets, % Unemployment, % GSP Growth, % Spread, % Interest Rate, % Deviation from Trend, % 298619 298619 298619 298619 298619 298619 1.89 1.83 3.08 0.96 2.25 25.71 -135.26 2.30 -26.63 -0.14 1.80 -31.06 369.22 21.68 23.92 3.12 10.62 97.69
Appendix 2.2: Bank Characteristics Table 3: Bank Characteristics Mean Std. Dev. 66 159 132 15 145 53 Min Median Max 215 30,984 25,468 2,758 28,226 10034 Age Assets, million $ Deposits, million $ Equity, million $ Liabilities, million $ Employees 39 339 266 34 308 88 1 0 0 74 69 60 6 62 28 -1,093 0 1
