Takeaways: FDIC Industry Earnings Release Q2 2021

9/16/2021 - By Paul Allen, CPA

In case you haven’t already noticed, the Federal Deposit Insurance Corporation (FDIC) released the industry earnings for the second quarter of 2021 this week, and it was a mixed bag of news. Here are a few takeaways:

Quarterly earnings were up over the same quarter in 2020 by $52 billion but were slightly down -$6.4 billion from the previous quarter (1st quarter 2021).

In both the first and second quarter of 2021, the Net Interest Margin (NIM) dropped to record lows; on June 30, 2021, down to 2.50%, the lowest NIM on record. Since the NIM is usually the biggest portion of net income for banks, this continued trend has most analysts and regulators very concerned.

The net income for the 1st and 2nd quarters of 2021 was most notably comprised of reversals of loan loss provisions: in the second quarter, the decline in the loan loss provision expense was $73 billion (note the comparison of the $73 billion decline in loan loss provision to the total net income of $70 billion). This trend of reductions in loan loss provision is most markedly related to the larger public banks, which set aside very large provisions in the first and second quarter of 2020 as they faced both the adoption of CECL and the significant level of uncertainty in the early days of COVID. It certainly makes folks wonder how long we can “live off” reducing loan loss provisions and what happens to industry earnings if we have to start rebuilding loan loss reserves, but we don’t get the NIM back to “normal” levels. The trend in having most of our industry earnings come from reversing loan loss provisions reminds me of the old saying, “Unsustainable trends are difficult to maintain”.

Despite the industry trend of significant reversals of loan loss provisions, that trend hasn’t occurred uniformly among all FDIC-insured institutions. The level of industry reversals has been primarily driven by large, public banks, compared to most community banks, where the provisions have been either zero or a relatively small provision expense, with only a few recording reversals of provisions.

The good news in this quarter was certainly that Credit Quality has continued to be strong, with reductions in the credit metrics such as >90 days, nonaccrual levels and net charge-offs. This continued environment of lower credit risk is driving most of the large public banks to require lower reserve levels and to be able to record lower loan loss reserves. This is also supported by the mix of loans, as we are originating higher levels of SBA or government-guaranteed loans which require no or lower reserves, as well as having more residential loans in the mix, which normally require lower reserves than commercial loans. Again, the concern is the future: we know credit risk goes in cycles, we know credit risk moves with the general economy, so the overarching concern is wondering about the connection between when low market interest rates will start to go up, compared to the economic and credit cycles. They do tend to move in tandem generally, but sometimes the timing isn’t perfect.

Another good news item was an uptick in loan volume, although the growth was driven primarily by growth in credit cards ($31 billion of total loan growth of $33 billion) and auto financing ($19 billion) –some loan portfolio components shrank, including C&I due to forgiveness or payoff of PPP loans.

On balance, while the industry earnings are robust, it remains a difficult and uncertain operating environment for bankers. Expect to see NIM compression to continue through 2021, pressuring earnings, and most bankers facing the dilemma of what to do with all their excess cash/liquidity, as “regular” loan demand for community bank products, which usually don’t include credit cards or auto loans to any significant degree, is slow, and bankers don’t have great choices available to invest excess cash.

Questions?

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About the Author | Paul Allen, CPA

Paul is a shareholder in the Financial Institutions Advisory Group of Saltmarsh, Cleaveland & Gund and the shareholder in charge of our Orlando office. He has over 25 years of public accounting and senior management experience, primarily serving financial institutions. Prior to joining Saltmarsh, Paul worked with an international accounting firm and served in various senior management roles with several financial institutions, including Chief Financial Officer.

Paul has extensive experience advising clients on accounting and financial reporting matters, enterprise risk management, asset liability management, mergers and acquisitions, and strategic planning. He has served on several boards and serves on the Faculty of the FBA Florida School of Banking at the University of Florida, the Iowa School of Banking, the TBA Southeastern School of Banking at Belmont University, the NCBA School of Banking at UNC-Chapel Hill and the Graduate School of Banking at LSU.