While there are many reasons a bank might fail, the common pattern is excessive loan losses followed by a lack of confidence from depositors. The actual closure of a bank may be triggered by a run on deposits, or regulators may step in if it appears that capital has been exhausted due to large losses. Bank failures over the past year have generally followed this pattern. For example, the failures of Washington Mutual and IndyMac happened as a result of unwise expansion and risks taken during the housing bubble, including an inordinate number of subprime mortgage loans that defaulted when the housing bubble burst.
There are many factors that can lead to excessive loan losses. Expanding rapidly into new geographic areas may result in banks taking on risks they don’t fully understand or trying to “buy” market share by liberalizing credit underwriting. Some may expand into new product types without fully understanding the risks involved, as was the case with subprime mortgages. Banks may also simply be lax in enforcing credit standards when the economy seems robust. Occasionally, a bank may acquire another company without fully understanding the risk in that company’s loan portfolio.
Recent bank failures have highlighted the three key elements that define the strength or weakness of a bank: loan quality, capital and liquidity. To some degree, investors and other observers can get a reasonably good picture of the health of a bank by analyzing these three factors.
While no one can predict the future with certainty, Zions Bancorporation remains strong and stable. None of the banks within Zions Bancorporation engaged in subprime mortgage lending, and when many banks were trying to grow home equity credit lines by lowering underwriting standards, Zions resisted that temptation and continued to maintain very consistent standards over recent years. Zions’ geographic diversification has also helped tremendously. While downturns in the housing markets in Southern California, Nevada and Arizona have adversely impacted the local economies, the economies in Utah, Texas, Colorado and elsewhere have remained relatively strong. Also, Zions’ home equity credit line and credit card portfolios have performed well above those of its peers. So, while net chargeoffs in 2008 were high by recent standards, they were roughly half the level experienced by the industry.
Additionally, Zions has a very strong capital position with a tangible common equity at 5.89 percent, an increase from 5.70 percent a year ago, which is 11 percent greater than the median of our peers, and 78 percent greater than the asset-weighted average for that group. In addition to these statistics, Zions’ Tier 1 risk-based capital ratio was 10.52 percent, up from 7.57 percent a year ago, and the total risk-based capital ratio increased from 11.68 percent to 14.71 percent. In a year in which losses were fairly significant, Zions actually increased its capital to near historically high levels.
Also, Zions’ liquidity has been strengthened significantly in recent months, as short-term borrowings were paid off. Zions’ unused borrowing capacity is greater than one-third of total deposits, which means the company has plenty of borrowing power in addition to its cash balances.
The FDIC’s confidence in Zions’ strength and stability has also been evidenced by the company winning bids for two failed banks. This confidence has transferred to many clients of other failed or faltering institutions as they look for a safe place to do business.
Like other business cycles Zions Bancorporation has been through in its 135-year history, this one will end. When it does, Zions is ideally situated to capitalize on a high-growth geographic footprint and a unique operating model that will keep Zions Bancorporation close to its clients and will position Zions to provide credit that will enable businesses to grow and the economy to strengthen.
Harris H. Simmons is chairman, president and chief executive officer of Zions Bancorporation.
*Artwork from kevindooley under Creative Commons license at Flickr.com.
Featured in the May/June 2009 issue of Zions Bank’s Community magazine.