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Banks Are Flush, But Borrowers Are Few

January 28, 2009 - KENNEBUNK -- A few weeks ago, Kennebunk Savings Bank lent $45 million in idle funds overnight to the Federal Home Loan Bank of Boston, which advances credit to New England financial institutions. Kennebunk Savings earned a half-percent or so on the transaction.

Making a half-percent annual rate on money is, well, next to nothing. But Kennebunk Savings has a problem, a dilemma shared by other Maine banks.

On one hand, the bank has plenty of money; deposits are at record levels. On the other hand, people are so spooked by the economy and worried about their jobs that they aren't borrowing.

With loan demand off and cash piling up, Kennebunk Savings finds itself lending money at a lower interest rate than it's paying depositors for their funds.

"I'm basically upside down on that $45 million," said Brad Paige, the bank's president and chief executive officer. "This is where banks get into trouble."

Nationally, the new Congress and administration are debating how to spend the remaining $350 billion in bank bailout money. Media reports continue to chronicle the financial turmoil at banks that made risky loans during the real estate boom, and the lending freeze that has chilled credit markets.

But bankers such as Paige at Kennebunk Savings have a different challenge: finding something profitable and constructive to do with all the money, until borrowers return.

This is a top priority this year for Maine banks. Lower earnings eventually can translate into cutbacks – in wages, staff and branch expansions.

Maine's 30 state-headquartered banks and 68 credit unions generally are in better shape than many of their out-of-state counterparts, but they have been weakened by the broader crisis, according to a new report to the Legislature from the Maine Bureau of Financial Institutions. One reason for their deteriorating performance: Half of all bank loan volume in Maine is concentrated in residential real estate, which has seen a sharp drop in sales because of the recession.

A reduction in home loans has a ripple effect in the local economy. It means fewer real estate commissions, less work for home inspectors and contractors and less money for towns and cities from the real estate transfer tax.

DRAMATIC DROP IN MORTGAGES

Savings banks lend roughly four of every 10 dollars in Maine. Their focus on bread-and-butter community lending gives them a good vantage point from which to see how the global economic slowdown has trickled down to Main Street.

Kennebunk Savings Bank is a prime example. It's the top lender in York County. It has 15 offices and a 24 percent market share, according to Federal Deposit Insurance Corp. data. Half its loans are to consumers, to buy homes, for instance; the other half are commercial loans, many for small businesses.

Kennebunk Savings hasn't changed its underwriting guidelines, Paige said, meaning it applies the same credit standards to customers today as it did before the financial meltdown. Despite that, the number of new mortgages granted took a double-digit tumble last year, as potential homebuyers held back.

"We certainly have the funds to make these loans," Paige said. "The demand has just slid quite a bit."

OUTLOOK FOR 2009 A CONCERN

That falling loan demand, and falling interest rates, are putting a squeeze on banks.

Community banks have two ways to make money. They can lend for homes or credit lines, for example, or invest in safe instruments, such as treasury notes. Ideally, they lend to local businesses and residents, to support the local economy.

Most of the money banks get for lending comes from deposits. They pay the owners of checking accounts and certificates of deposit for the use of their money. At Kennebunk Savings, deposits in the last three months of 2008 grew 6 percent, to $655 million, as investors fled the sinking stock market.

Overall, the bank was paying 2.14 percent interest on these deposits. That's why Paige wasn't happy to be lending money in the interbank overnight market at a half percent.

Banks, of course, want to lend money at a higher rate of return than they pay depositors for funds. Year-to-date last September, Kennebunk Savings had a yield of 6.78 percent on the money it lent. Subtract 2.14 percent in interest payment from that overall yield – and, after paying employees, taxes and other overhead – the bank earned 4.64 percent on its money.

In general, savings banks need a net interest margin of about 3 percent to be profitable, according to the Maine Association of Community Banks. And the outlook for 2009 concerns Paige.

Lending rates are falling, pushed down by the federal government to encourage borrowing in the recession. The interest rate on a 30-year fixed mortgage is hovering around 5 percent these days at Paige's bank. Meanwhile, the bank is promoting a seven-month CD with an annual yield of 2 percent.

These two benchmarks show how the lending spread – the bank's profit margin – is narrowing. And that's the squeeze bankers are fretting over today.

"At some point, people will be more comfortable again about real estate," said Chris Pinkham, president of the Maine Association of Community Banks. "Until then, we're paralyzed. We're in limbo. You can't go out on the street, drag people in and make them take out a loan."

Pinkham's group publishes a quarterly magazine called Maine Community Banker. The cover story for the last issue had a photograph that portrays a loan officer and customer at a desk at Norway Savings Bank. Superimposed on the picture is a whirlwind of hundred-dollar bills flying off the desk. The caption on the image is, "Money to lend."

The message of the story, Pinkham said, was to signal credit-worthy customers who might be convinced from national media that banks weren't lending money.

"We want people to know we are ready and willing to make loans," he said.

RETAIL TACTICS NOT AN OPTION

Although the economy had begun slowing early last year, consumer confidence didn't really stall until September, following a string of bank failures and the stock-market collapse.

Just how that translated into overall loan volumes at Maine banks won't be known until next month, when fourth-quarter figures are compiled by the federal government, according to Robert Studley, a bank examiner at the Maine Bureau of Financial Institutions.

"We're hearing from bankers that loan demand just isn't there," Studley said.

As Paige looks out on the year, he wonders what will happen by late spring. Kennebunk Savings Bank is in an affluent tourist area. Deposits typically swell in the summer, with money going back out the door in the form of loans for real estate and business ventures.

If that pattern doesn't return this year, Paige could invest idle money in government-sponsored, mortgage-backed securities, for instance, and continue earning small returns on overnight lending. His management team also has been considering a new promotion for home equity loans. Generating loans, he said, is a critical mission now.

But banks have limited options. They can't offer a half-off sale, like a discount store might do to draw customers.

"People aren't going to be knocking down the doors here," Paige said. "The economy and real estate market must recover first. It's really beyond our control."

By TUX TURKEL, Staff Writer, Portland Press Herald, January 25, 2009


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