Thursday, July 21, 2011

Analysis: Banks in Arizona need cash

Continuing financial problems could lead to more failures of Arizona-based banks and hasten further industry consolidation, according to a new analysis.

"Community banks are still facing enormous pressure," said Kamal Mustafa, chairman of Invictus Consulting Group, a New York-based bank-research firm that conducted the study.

The specter of rising interest rates, whether from a federal debt default in early August or from other reasons down the road, could trigger new problems for small banks.

"When interest rates increase, a lot of customers will face a doubling of their interest costs, leading to an increase in the number of defaults," said Mustafa, who indicated he feels higher rates are inevitable.

Among states, Arizona had the highest percentage of undercapitalized local banks at the end of the first quarter, the most recent period for which data are available, after applying a proprietary stress test developed by Invictus.

Specifically, 19 of the 36 banks wouldn't have enough capital to cover 8 percent of their primary or "Tier 1" loans.

Since the analysis was run, Summit Bank of Prescott last week became the 14th Arizona bank to fail since 2008.

Even so, Arizona banks have made progress. Combined, they earned a small profit from January through March after 12 straight money-losing quarters that resulted in nearly $1 billion in losses.

Invictus conducts stress tests on banks using financial statements and other research. It estimates that Arizona's banks would need to raise $140 million to get the entire group above that 8 percent capital level. The firm's focus is on spotting banks with problem loans that haven't surfaced yet, based on the types of loans still on the books and other factors.

For Arizona, the research indicates that residential real-estate problems have largely moved through the pipeline (at least from the perspective of local banks) but that commercial loans still pose risks. Arizona banks remain heavily exposed to commercial properties that are owned-occupied and those held by investors, Mustafa said.

Other states show different patterns. For example, Nevada banks, which he said are facing a "nightmare," are grappling more with problems from credit-card and other consumer loans tied to high unemployment.

The analysis of banks in Arizona excludes Chase, Wells Fargo, Bank of America and most other big banks that operate here but are headquartered elsewhere. Invictus doesn't publicize details about individual banks.

Regardless of bank size, depositors generally are protected by federal insurance at least up to $250,000 per institution.

One lesson from the research shows the critical role played by capital in helping banks absorb losses and stay afloat. Unfortunately, many Arizona banks are finding it difficult to raise new capital from investors these days.

Despite an $8.8 billion loss just reported by BofA, big banks generally recover much better than their smaller counterparts because they have more diversified operations, lower cost structures and greater ability to raise capital, Mustafa said.

If more weak Arizona banks failed, he said, it would be better for the state if their operations were acquired by healthier Arizona banks as opposed to those based elsewhere. Local institutions, he said, are more likely to recirculate deposits into new loans to benefit the state's economy, rather than redirecting them to other states.

by Russ Wiles The Arizona Republic Jul. 19, 2011 05:03 PM

Analysis: Banks in Arizona need cash

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