Bad Loans

How to know if your bank is safe


Bad Loans

A non-performing asset ratio shows bad loans as a portion of total loans: the higher the percentage, the more troubled the loan portfolio. There is no standard percentage to use as a benchmark for a "healthy" portfolio. It helps to look at how the ratio has changed over time and how the bank stacks up against its peers. Make sure to compare apples to apples — a regional bank and a national bank don't operate the same way, nor do two small banks operating in different geographical regions, nor do an investment bank and a retail bank.

Article Index
How to know if your bank is safe
Who will survive?
Bad Loans
Looking Ahead
Capital Levels
Location and Scope
A Critical Eye
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IndyMac became the second-largest bank failure in the history of the FDIC earlier this month. The Pasadena, Calif-based bank's NPA ratio was 6.51% at the end of the first quarter — a rapid acceleration of six times as high as the year-ago period.

By comparison, the nation's largest retail bank, Bank of America(BAC), had a 1.13% ratio at the end of the second quarter, which is four times as high as the year-ago quarter, but still a small portion of its loans. Washington Mutual's(WM) NPAs took up a bigger chunk of the pie, at 3.62%, which is three times as high as the year-ago period. Wachovia's(WB) 2.41% was lower, but still five times as high as the second quarter of 2007. The NPA ratio provides the scope of the bank's problem — just how much of its portfolio has gone sour. Write-downs show how the underlying assets' value has declined, while charge-offs tell how much of the problem has already been taken off the books. While the billions worth of writedowns and charge-offs can seem like staggering figures, the bigger they are, the more the bank is facing the music, getting rid of the problem and trying to move forward. A bank may take a $5 billion hit in one quarter to get rid of a large swath of loans that aren't earning any money. But if it is still standing and funding its operations, the move might be better than holding onto those assets.

"Some of these guys are posting extraordinary losses and trimming that from their balance sheet," says Karolyi. "These big baths do have immediate and long-term consequences, so it's definitely about getting ahead of things."

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