Many banks based in the Indianapolis area have seen a critical measure of asset quality further erode over the last year—a sign, industry observers say, that the local economy is recovering more slowly than expected.
Among the 15 banks headquartered in Marion County and surrounding counties, 10 saw an increase in the proportion of their riskier assets to the capital available to cover losses.
The indicator, often called the Texas ratio, is calculated by dividing loans for which borrowers are out of compliance with terms, plus loans 90 or more days past due by the bank’s tangible equity and loan-loss reserves.
The median Texas ratio for Indianapolis-area banks increased from about 24 percent in March 2010 to 30 percent in March this year, the latest month for which figures for all locally based banks are available.
For many local banks, lurking behind the decline is a common culprit: commercial real-estate loans.
In some cases, just a few problem loans bogged down portfolios as property values diminished and demand for office and retail space continued to sputter.
That the ratio is in the double-digits comes as no surprise to industry watchers; the median for local banks is more than six times what it was in 2007. But many say they thought the numbers would trend up from 2010.
“I was expecting to see improvement across the board, and we didn’t get it,” said Mike Renninger, principal at Carmel-based financial consultancy Renninger and Associates LLC. “[Banks] are not getting better as fast as we hoped they were.”
As loan problems persist, banks maintain higher credit requirements, and that makes it tougher for some small businesses and individuals to access capital.
Increases in the Texas ratio aren’t desirable. Yet, only a couple of local banks have numbers hovering near or above 100 percent, which is commonly considered a threshold for concern.
There’s another reason few of the locally based banks are considered troubled. Cushions have climbed with problem loans. In the quarter ended in March, 11 of the 15 banks increased their risk-based capital ratio compared with 2010, a signal of thicker cushions.
Nevertheless, the Texas ratio’s overall move in the wrong direction is a discouraging sign that local banks—and the local economy—are recovering more gradually than anticipated.
“To the extent that the country, the city and the state are still in a recession—it’s going to be reflected in the bank,” said Rick Nisbeth, who worked on bank mergers in Indiana for more than a decade and now lives in Florida. “When everyone was saying, ‘We’re out of the recession; we’re in recovery,’ the only thing that seemed to be recovering was the stock market.”
The commercial culprit
National banks doing business in the Indianapolis area and Indiana banks headquartered outside the metro area are faring better.
The median ratio of eight Indiana banks decreased from about 30 percent last year to 23 percent this year. National players such as Chase, PNC and Fifth Third saw declines from 35 percent to 26 percent.
Experts caution against reading too much into differences in the Texas ratio among local banks, Indiana regionals and national banks doing business in the Indianapolis area. The differences are too narrow to draw major conclusions, they say.
Still, because the ratio can be applied consistently across the three categories, it’s reasonable to conclude that the locally based banks are struggling to thrive in a sluggish economic recovery.
Also, for the local banks, all of which have about $1.5 billion or less in assets, just a few sour loans can swing the ratio in the wrong direction.
The Texas ratio for Indianapolis-based First Internet Bank, for example, increased because a $3 million loan tipped into more than 90 days past due in the first quarter of this year, said CEO David Becker.
And like many of the loans causing problems at Indianapolis-area banks, that loan was backing commercial real estate.
Real estate has proved challenging, bankers say, as developers struggle to sell or lease space. Instead of making loan payments from that income, some borrowers typically have drawn from other sources of capital.
But now that capital is starting to run out.
“In a lot of cases, borrowers are personally guaranteed. They used whatever resources they could to secure their debt,” said Lynn Gordon, president of Citizens Bank in Mooresville. “At some point, they run out of resources. Last year, it finally caught up with our borrowers.”
Adding to the crunch is the decline in appraised values for many commercial properties. As loans weaken, the value of the properties they’re backing typically is reappraised.
“The repricing we’re going through has taken anywhere from 10 to 30 or 40 percent of the appraised value off the original loan,” said Ross Reller, director of land services for the Indianapolis office of Colliers International.
That means, in some cases, properties valued in the low seven figures have seen values slide into the mid six figures, said Les Mongell, president of State Bank of Lizton, which has made several commercial loans in fast-growing Hendricks and Boone counties.
When values fall, banks have to write off losses, and that eats into their equity.
Bright spots ahead?
Bankers and the experts who follow them say they anticipate seeing the loan quality ratio turn around soon for Indianapolis-area banks.
Renninger expects an uptick in second-quarter data, based in part on strong performance he’s seen in some larger Indiana-based banks’ earnings announcements, which don’t disclose Texas ratios.
“There’s reason for optimism—the medians for local Indiana-based banks are poised for improvement,” Renninger said. But, he added, “The turnaround [for other banks] is so fresh, it’s hard to know how robust it is.”
Some Indianapolis-area bankers say they’re starting to see overall loan delinquency decline, particularly among consumers.
“We’re in the cleanup mode,” said Becker, the First Internet CEO. “There was a while when you would take one [bad loan] off and add one on.”
Becker said his bank is well-positioned because most of its loans are to consumers. Consumers’ ability to pay their debts is strengthening as local unemployment numbers tick down, albeit gradually.
And despite the struggles in commercial real estate, Reller said he thinks the market has hit bottom and activity, slowly, is picking up.
But banking experts caution against being too bullish. The contrast between the 2007 Texas ratios and current numbers show how the norm has shifted since the recession.
“It’s going to be a long time—and I’m talking probably several years—before community banks are robust and healthy again,” said John Reed, a longtime banking expert who leads the Indianapolis office of investment firm David A. Noyes & Co. “That’s something which more and more bankers are coming to believe.
“A lot of people were thinking that’s way too pessimistic, but these numbers are consistent with that.”•