JOHN HAMILL
Target market intact

Community banks once again challenged analysts’ predictions and reported record-high earnings for the third quarter of 2002, proving that even in a struggling economy and amid slumping consumer confidence, the small can survive.

As banks enter into the fourth quarter, bankers say the trend of consumers opting to place funds in money market or savings accounts, rather than depositing money in the stock market, is likely to continue.

Economic analysts agree that smaller banks have generated more fee income from increased deposits and the sale of mortgage loans, which gave a boost to third-quarter non-interest income.

“This is the third record [earnings] quarter in a row. The earnings were driven by an increase in deposits and the low-rate environment has helped us maintain our interest spread,” said Jan A. Miller, president and chief executive officer of Wainwright Bank & Trust Co. in Boston, which maintains over $470 million in assets. “The long growth has been challenging … but deposit growth is terrific because the stock market is still in turmoil and people are keeping money in money market accounts and savings accounts.”

In the third quarter it was largely consumer – not commercial – lending that drove the results. But while consumers continue to hoard their money in savings and deposit accounts, analysts say that trend cannot continue forever.

While community banks have proven analysts wrong in the past, Miller points out that commercial loan growth is virtually flat and asset value is showing signs of weakening – an indication that the economy is recovering slowly.

At the New England Economic Project’s semiannual Economic Outlook Conference in October, economists addressed the dramatic drop-off in New England states’ revenues and announced their anticipation for a slow recovery beginning in 2003.

The NEEP, a nonprofit forecasting organization that has tracked the regional economy since 1971, solicits members from financial institutions, business services, insurance carriers, mortgage providers and government agencies to weigh in on the state of the economy and forecast the months ahead.

According to NEEP analysts, the New England economy, despite its growth in community banking, is expected to remain stagnant in the fourth quarter of 2002 and then enter a slow recovery starting in the first quarter of 2003.

Speakers at the conference noted that New England experienced a 16.5 percent decline in total tax revenue during the second quarter of 2002, which was far worse than the national average of 10.4 percent.

Specifically in Massachusetts, economists verified that the state is still in a recession and that the state’s economy appears to be contracting.

According to economist Alan Clayton-Matthews, the third quarter is over and “it wasn’t a good quarter” for business in general.

Because of the continued rise in the state’s unemployment rate, Clayton-Matthews said there was essentially no growth in the state’s economy.

“The economy continued to decline in the third quarter,” said Clayton-Matthews, an assistant professor of Public Policy at the University of Massachusetts in Boston. “Our economy is performing weaker than the nation’s economy – there have been enough announced layoffs that I suspect that the fourth quarter will continue to show detraction … That would be the eighth consecutive quarter for declines.”

Despite the decline in employment and the fear of a further declining stock market, Clayton-Matthews says banks are thriving on excess deposits and low interest rates, but warns that will not be the case much longer.

“Savings banks are doing well because of the residential real estate market,” he said. “They are doing a lot of refinancing activity and they make money off of that, which definitely helps [their business]. The differential between borrowing and lending rates has been a good source of growth, but that can change. Mortgage refinancing rates will change because they can’t go much lower. This refinancing boom is much near its end and when it does end, the banks will not have this source of revenue.”

But bankers remain positive regarding the prospects for their business and an eventual economic recovery.

“We’ve grown and our deposits have grown $1.2 billion since last year … because of our product. People come out of the stock market and are looking to put their money with banks,” said John Hamill, chairman and chief executive officer of Sovereign Bank New England. “Our fee income is up 16 percent in commercial banking, driven in large part because of the growth of our cash management business. Our allowance for loan losses has stayed unchanged from the prior quarter and up slightly from the third quarter in 2001.”

Hanging On

Hamill said that the banking economy has seen a dramatic rise in growth since the third quarter of 2001, and said he thinks the state of the economy will rebound sooner rather than later based on consumer confidence.

“Our prediction for the fourth quarter of 2002 is that we’ll continue to hit the [earnings] target estimates from [Wall Street] and have another good fourth quarter,” said Hamill. “As far as 2003, we believe that we will continue to have good growth and the issues that are in front of us have to do with the question of the economy … while the economy has been robust, it has been better.”

Analysts agree that regional and community banks continued to thrive in the third quarter and produced record earnings. And while economists at the NEEP say pessimism of investors and “the weight on business confidence created by the ongoing turmoil in financial markets” is deterring the economy as a whole, local bankers say that avoiding the major corporate issues’ shakeups and scandals has helped to increase business.

“We are larger than a community bank but our target market has not been hurt,” said Hamill. “Our focus is on small business, along with community banks, and those markets have fared well. We have avoided the major corporate problems so regional banks and community banks have done well.”

Consumer lending and the record level of financing activity continued to increase in the third quarter, which helped smaller community banks with “a more personal approach” keep consumers, according to Miller.

Wainwright Bank’s growth over the last two years has been “significantly greater,” said Miller, “particularly because of the mergers of the large banks – customers want a more personal approach and service.”

Miller said many smaller banks, including Wainwright Trust & Savings, were able to maintain interest spread in the third quarter, which was a primary driver of earnings for the bank. But Miller cautions that the current wave of earnings will not last forever.

“The low-interest-rate environment is not going to last forever and that presents the challenge – hang on to deposits and relationships because when the economy gets better, the stock market gets better” and some of the money now being placed in banks will migrate, said Miller. “The challenge going forward is to maintain the momentum.”