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FALL 2011 CENTRAL NEWS AND VIEWS FOR EIGHTH DISTRICT BANKERS FEATURED IN THIS ISSUE: Earnings Growth Stalls | Local House-Price Changes Now Following National Trends Agriculture Banks Are Outperforming Their Peers, But How Long Will It Last? By Gary S. Corner also surged. Ancillary agricultural businesses, such as farm equipment manufacturers and dealers, have also benefited from recent farm prosperity. As a result of strong industry conditions in recent years, agriculture banks have generally outperformed community banks without an agricultural focus. The level of problem T he domestic agriculture industry has been thriving over the last decade. According to the U.S. Department of Agriculture (USDA), six of the past eight years rank among the top 10 income-producing years for the industry (adjusted for inflation) since 1980. As commodity prices and farm incomes soared, farmland prices continued on Page 7 Agriculture Bank Performance Assessment District Ag Banks (137)1 ROA Nonperforming Loans + OREO / Total Loans + OREO2 District Non-Ag Banks (483) U.S. Ag Banks (1,517) U.S. Non-Ag Banks (4,381) 2011 2010 2011 2010 2011 2010 2011 2010 1.05% 0.73% 0.80% 0.77% 1.06% 0.96% 0.49% 0.29% 2.39 2.37 4.27 3.71 2.51 2.56 5.66 5.38 Tier 1 Capital Ratio 10.31 10.41 9.70 9.44 9.91 9.93 9.69 9.44 Net Interest Margin 3.97 4.00 3.88 3.80 3.91 3.99 3.84 3.79 Average CAMELS Rating3 1.89 1.84 2.18 2.16 1.89 1.86 2.44 2.39 Provision Expense / Average Assets 0.36 0.64 0.39 0.45 0.24 0.41 0.54 0.77 Loan Loss Reserve / Nonperforming Loans 95.21 86.74 68.29 70.38 93.12 79.87 54.71 50.27 Ag Production Loans / Total Loans 11.60 12.09 1.94 2.04 20.96 21.75 1.40 1.42 Farmland Loans / Total Loans 25.17 25.46 5.21 5.21 21.26 20.33 3.00 2.88 Total Ag Loans / Total Loans 36.77 37.55 7.15 7.26 42.22 42.08 4.40 4.30 SOURCE: Reports of Condition and Income for Insured Commercial Banks. This assessment covers only banks with less than $1 billion in assets. NOTES: 1 2 3 The Federal Reserve’s Eighth District has 137 agriculture banks, with most having less than $1 billion in assets. The average asset size of an agriculture bank nationwide is $128 million. A bank is defined as an agriculture bank if the combined agricultural production and farmland loans account for 25 percent or more of its total loans. The nonperforming loans + OREO (other real estate owned) ratio measures the percentage of problem loans and real estate property held by banks after foreclosure. High percentages of these types of assets undermine a bank’s health and severely impair earnings. CAMELS stands for the composite supervisory rating for Capital, Asset Quality, Management, Earnings, Liquidity and Market Sensitivity. T H E F E D E R A L R E S E R V E B A N K O F S T. L O U I S : C E N T R A L T O A M E R I C A’ S E C O N O M Y® | STLOUISFED.ORG CENTRAL VIEW News and Views for Eighth District Bankers Vol. 21 | No. 3 www.stlouisfed.org/cb Much More To Come with the Dodd-Frank Act EDITOR Scott Kelly 314-444-8593 firstname.lastname@example.org Central Banker is published quarterly by the Public Affairs department of the Federal Reserve Bank of St. Louis. Views expressed are not necessarily official opinions of the Federal Reserve System or the Federal Reserve Bank of St. Louis. Subscribe for free at www.stlouisfed.org/cb to receive the online or printed Central Banker. To subscribe by mail, send your name, address, city, state and ZIP code to: Central Banker, P.O. Box 442, St. Louis, MO 63166-0442. To receive other St. Louis Fed online or print publications, visit www.stlouisfed.org/subscribe Follow the Fed on Facebook, Twitter and more at www.stlouisfed.org/followthefed The Eighth Federal Reserve District includes all of Arkansas, eastern Missouri, southern Illinois and Indiana, western Kentucky and Tennessee, and northern Mississippi. The Eighth District offices are in Little Rock, Louisville, Memphis and St. Louis. By Julie Stackhouse J uly 21 marked the one-year anniversary of the passage of the DoddFrank Act. Since enactment, several key rules have been finalized. However, the majority remain to be written. Some accounts suggest that 122 rules will be released across federal banking and other agencies in the third quarter of this year. Julie Stackhouse is What have we seen over the past senior vice presi12 months? The following are some of dent and managing the rules and other provisions of Doddofficer of banking Frank now in place: supervision, discount • As of Oct. 1, 2011, banks with more window lending and than $10 billion in total assets may community affairs at only charge an interchange fee of 21 the St. Louis Fed. cents plus a 5-basis-point ad valorem charge on all debit card transactions. (See related article on Page 4 of this issue.) • Banks may now pay interest on demand deposits based on the Dodd-Frank requirement that the Fed’s Board of Governors terminate Regulation Q restrictions. • De novo banks may branch into any state regardless of their charter type or charter location as long as a state allows its own state-chartered de novo banks to branch within the state. • The Consumer Financial Protection Bureau (CFPB) is now officially in business—albeit without a confirmed director—and will supervise banks with $10 billion or more in total assets, as well as nonbank financial firms. However, when the CFPB begins to write rules, those rules will most likely apply to banks of all sizes. Until a director is confirmed, the bureau is limited in its ability to supervise nonbank financial institutions. Useful St. Louis Fed Sites Dodd-Frank Regulatory Reform Rules www.stlouisfed.org/rrr FOMC Speak www.stlouisfed.org/fomcspeak FRED (Federal Reserve Economic Data) www.research.stlouisfed.org/fred2 St. Louis Fed Research www.research.stlouisfed.org • Organizations with $1 billion or more in total assets will have their incentive compensation structures for senior management reviewed as part of the supervisory process. Over the next year, I anticipate that the impact and costs of Dodd-Frank to community banks will become more evident. I also expect we will see changes in products and services offered by community banks as they inevitably work to offset those costs. We will continue to follow these developments and update you on changes. >> M O R E O N L I N E Dodd-Frank Act Regulatory Reform Rules Web Site www.stlouisfed.org/rrr 2 | Central Banker www.stlouisfed.org Q U A R T E R LY R E P O R T Earnings Growth Stalls in Second Quarter, Asset Quality Is Steady in District By Michelle Neely A fter a large increase in the first quarter of 2011, earnings growth at District banks came to a standstill in the second quarter. Return on average assets (ROA) dropped 3 basis points to 0.74 percent at District banks, while it increased 4 basis points to 0.67 percent at U.S. peer banks (those with average assets of less than $15 billion). Still, earnings ratios at both sets of banks are up substantially from their yearago levels. The drag on earnings was the result of a 5-basis-point increase in noninterest expense, and a 4-basis-point decline in noninterest income. The other main components of earnings—net interest income and loan loss provisions—had little effect. On the positive side, net interest income rose, while loan loss provisions fell. The net interest margin (NIM) increased slightly at both sets of banks in the second quarter, rising 1 basis point to 3.98 percent in the District and 3 basis points to 3.91 percent at U.S. peer banks. The District’s ratio is up 20 basis points from its year-ago level, and is at its highest level since the start of the financial crisis. The NIM is being boosted especially by the performance of the District’s larger institutions; District banks with assets of less than $1 billion recorded a slightly lower average NIM of 3.94 percent. Nonperforming Loan Ratio Is Down Asset quality has yet to improve at District banks and is an even larger problem at U.S. peer banks. The ratio of nonperforming loans to total loans decreased slightly in the second quarter to 3.26 percent in the District, but is still up 29 basis points from its yearago level. The nonperforming loan ratio fell 16 basis points in the second quarter at U.S. peer banks and is down 30 basis points from its year-ago level; however, at 3.72 percent, it remains well above the District’s average. Not Much To Cheer About1 2010: Q2 2011: Q1 2011: Q2 RETURN ON AVERAGE ASSETS 2 District Banks 0.52% 0.77% 0.74% U.S. Peer Banks 0.26 0.63 0.67 District Banks 3.78 3.97 3.98 U.S. Peer Banks 3.84 3.88 3.91 District Banks 0.83 0.61 0.59 U.S. Peer Banks 1.09 0.61 0.61 District Banks 2.97 3.27 3.26 U.S. Peer Banks 4.02 3.88 3.72 NET INTEREST MARGIN LOAN LOSS PROVISION RATIO NONPERFORMING LOAN RATIO 3 SOURCE: Reports of Condition and Income for Insured Commercial Banks. NOTES: 1 2 3 Because all District banks except one have assets of less than $15 billion, banks larger than $15 billion have been excluded from the analysis. All earnings ratios are annualized and use year-to-date average assets or average earning assets in the denominator. Nonperforming loans are those 90 days or more past due or in nonaccrual status. The increase in the District’s nonperforming loan ratio in the second quarter was driven by deterioration in the commercial and industrial (C&I) loan portfolio, rather than the real estate portfolio, as has been the case for most of the past three years. In the C&I portfolio, 2.49 percent of loans were nonperforming as of June 30, a 22-basis-point increase from the level at the end of the first quarter. The ratio of nonperforming real estate loans to total real estate loans declined slightly in the second quarter in the District to 3.73 percent. This ratio remains very high by historical standards and is the major determinant of the overall nonperforming loan ratio. Within the District’s real estate portfolio, the proportion of nonperforming residential mortgage as well as construction and land development loans declined, while the proportion of continued on Page 7 Central Banker Fall 2011 | 3 Board Approves Final Debit Interchange Fee Rule D ebit card issuers may charge merchants a maximum interchange fee of 21 cents per transaction plus 5 percent of the transaction value under the Board of Governors’ final rule issued on June 29, 2011. An issuer may charge an additional 1 cent per transaction if it develops and implements fraud prevention programs. To illustrate the impact of the new rule, the maximum interchange fee that a nonexempt debit card issuer will be able to charge a merchant on a $40 debit transaction is 24 cents (21-cent base component, 5 percent of the value—2 cents—and 1-cent fraud adjustment). The fee cap is effective Oct. 1, 2011. Issuers with $10 billion or less in total assets are exempt. To assist in determining which issuers are subject to the fee standards, the Board is publishing lists of institutions that are above and below the exemption asset threshold. As of July 12, 2011, there were about 15,000 exempt financial institutions. The Board also clarified that prepaid cards meet the definition of debit cards and would be subject to the debit interchange fee restrictions unless the issuing bank qualifies for the exemption. >> R E A D M O R E Small Issuer Exemption www.federalreserve.gov/ paymentsystems/debitfees.htm How We Arrived at the Debit Card Interchange Fees and Routing Proposals www.stlouisfed.org/debitcardfees Statewide Bank Conditions for Second Quarter 20111 Compiled by Daigo Gubo 2010: Q2 2011: Q1 2011: Q2 0.40% 0.78 0.21 0.40 0.96 0.52 0.23 0.32 0.62% 1.00 0.44 0.41 1.28 0.56 0.65 0.37 0.60% 1.10 0.40 0.57 0.87 0.69 0.68 0.24 3.72 4.07 3.61 3.75 4.09 3.87 3.40 3.77 3.84 4.21 3.68 3.81 4.36 3.83 3.64 3.83 3.85 4.27 3.69 3.83 4.17 3.93 3.69 3.86 0.94 0.75 1.22 0.94 0.54 0.79 0.92 0.82 0.69 0.50 0.89 0.82 0.52 0.67 0.51 0.60 0.69 0.52 0.94 0.66 0.52 0.60 0.51 0.70 3.79 2.92 5.19 3.21 2.43 2.77 3.76 3.11 3.82 3.45 5.19 3.26 2.45 2.92 3.17 3.73 3.78 4.01 5.06 3.03 2.41 2.80 2.99 3.95 5.16 4.49 6.50 3.80 3.43 4.05 5.62 4.88 5.44 5.58 6.79 4.02 3.72 4.64 4.88 5.75 5.44 6.09 6.75 3.80 3.61 4.56 4.74 6.04 RETURN ON AVERAGE ASSETS 2 All Eighth District States Arkansas Banks Illinois Banks Indiana Banks Kentucky Banks Mississippi Banks Missouri Banks Tennessee Banks NET INTEREST MARGIN All Eighth District States Arkansas Banks Illinois Banks Indiana Banks Kentucky Banks Mississippi Banks Missouri Banks Tennessee Banks LOAN LOSS PROVISION RATIO All Eighth District States Arkansas Banks Illinois Banks Indiana Banks Kentucky Banks Mississippi Banks Missouri Banks Tennessee Banks NONPERFORMING LOAN RATIO 3 All Eighth District States Arkansas Banks Illinois Banks Indiana Banks Kentucky Banks Mississippi Banks Missouri Banks Tennessee Banks NONPERFORMING LOAN + OREO RATIO 4 All Eighth District States Arkansas Banks Illinois Banks Indiana Banks Kentucky Banks Mississippi Banks Missouri Banks Tennessee Banks SOURCE: Reports of Condition and Income for Insured Commercial Banks. NOTES: 1 2 3 4 4 | Central Banker www.stlouisfed.org Because all District banks except one have assets of less than $15 billion, banks larger than $15 billion have been excluded from the analysis. All earnings ratios are annualized and use year-to-date average assets or average earning assets in the denominator. Nonperforming loans are those 90 days or more past due or in nonaccrual status. OREO stands for other real estate owned. ECONOMIC FOCUS Unlike Prior Decades, House-Price Changes in Largest District Cities Are Following National Trends By Julia Maués, Daigo Gubo and William Emmons B efore the recent housing boom and bust, changes in local house values appeared to be a localized phenomenon. Knowing how much house prices were changing on average nationwide, or in any other city, wouldn’t help us predict local changes. Although some areas of the country had experienced declines in the past, few people thought a nationwide decline in house prices was likely. However, all national indexes of house prices did fall significantly in recent years. And if the current trend of synchronized weakness continues, then problems in housing markets nationwide should be seen as potential problems for markets in our District. As shown in Figure 1, during the build-up of the housing bubble, the St. Louis, Little Rock, Louisville and Memphis markets did not experience increases in prices as large as those seen in the nation as a whole.1 Nevertheless, between January 2000 and the quarter of each Eighth District MSA’s peak, prices increased about 50 percent in St. Louis, 35 percent in Little Rock, 25 percent in Louisville and 20 percent in Memphis. While the amplitude of increases over the same period for the United States on average was much higher, the pattern of growth and decline was similar.2 It might seem logical to assume that markets that experienced the highest appreciation in house prices consequently saw the largest declines. However, as seen in Figure 1, while Memphis experienced the lowest appreciation among the four metropolitan areas, home prices in Memphis are back to second quarter 1999 levels. In St. Louis, prices are down to second quarter 2002 levels, and in Louisville they are back at fourth quarter 2003 levels. Little Rock is the exception in the District; prices there have recently reached all-time highs. The better performance of continued on Page 6 FIGURE 1 U.S. and Eighth District MSA CoreLogic House-Price Index 210.00 United States 190.00 St. Louis MSA Little Rock MSA 170.00 Memphis MSA Louisville MSA 150.00 130.00 110.00 90.00 1 3 1 3 1 3 1 3 1 3 1 3 1 3 1 3 1 3 1 3 1 3 1 3 1 :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q :Q 99 99 00 00 01 01 02 02 03 03 04 04 05 05 06 06 07 07 08 08 09 09 10 10 11 19 19 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 SOURCE: CoreLogic. Figures are seasonally adjusted, quarterly and indexed, with 2000 = 100. Last observation was 2011: Q2. NOTE: The dotted lines match 2011: Q2 house-price levels with the corresponding levels from previous years. Central Banker Fall 2011 | 5 House-Price Changes continued from Page 5 Little Rock’s housing market compared with other cities in the Eighth District can be attributed to, among other factors, a lower unemployment rate and higher population growth. FIGURE 2 Correlation between National and MSA CoreLogic House-Price Index Quarter-over-Quarter Change, 1980 to 2011: Q2 U.S. St. Louis Memphis Louisville Little Rock Miami 0.41 different regions of the country was very low. During the 1980s and 1990s, the correlation among house prices in major Eighth District MSAs and Miami was quite low, ranging from -0.41 to 0.41. More recently, however, the boom and bust in house prices affected all major regions of the U.S., albeit with different magnitudes. In the 2000s, house prices in the District’s four largest metro areas moved much more closely with those in Miami. Correlations increased significantly, ranging from 0.70 to 0.81. To Summarize U.S. 1.00 0.31 0.18 -0.15 -0.12 St. Louis 0.31 1.00 0.13 -0.06 -0.03 0.02 Memphis 0.18 0.13 1.00 -0.04 -0.09 -0.04 Louisville -0.15 -0.06 -0.04 1.00 -0.16 -0.41 Little Rock -0.12 -0.03 -0.09 -0.16 1.00 0.24 0.41 0.02 -0.04 -0.41 0.24 1.00 U.S. 1.00 0.53 0.17 0.04 0.04 0.20 St. Louis 0.53 1.00 0.35 0.04 0.10 -0.06 Memphis 0.17 0.35 1.00 -0.02 0.42 0.13 Louisville 0.04 0.04 -0.02 1.00 0.46 0.41 Little Rock 0.04 0.10 0.42 0.46 1.00 0.29 Miami 0.20 -0.06 0.13 0.41 0.29 1.00 Loosening and then tightening credit standards affected the whole country and conceivably contributed to similar movements in prices. Although it is not clear why houseprice correlations among such distinct cities are so much higher in the most recent decade, the largest Eighth District cities are following the national trend in house prices more closely than before. Therefore, even if economic fundamentals in the Eighth District suggest that our house prices are likely to stabilize, downward house-price trends in other regions of the country may continue to negatively affect prices here. U.S. 1.00 0.86 0.83 0.67 0.68 0.85 >> M O R E O N L I N E St. Louis 0.86 1.00 0.81 0.76 0.64 0.81 Memphis 0.83 0.81 1.00 0.72 0.71 0.77 Louisville 0.67 0.76 0.72 1.00 0.68 0.70 Little Rock 0.68 0.64 0.71 0.68 1.00 0.75 Miami 0.85 0.81 0.77 0.70 0.75 1.00 1980-1989 Miami 1990-1999 2000-2011: Q2 SOURCE: CoreLogic Eighth District Cities and a “Poster Child” We examined the degree to which house prices in Eighth District cities and across the U.S. vary together. To pick a city with very different economic fundamentals than those in the Eighth District, we also included Miami. As a poster child of the housing boom and bust, Miami plausibly would have experienced very different house price movements than cities in the Eighth District. Figure 2 depicts the correlation coefficients for these relationships during the previous three decades (1980 through 2011: Q2).3 Because of the important role that local indicators played prior to the 2000s, the correlation among house prices across 6 | Central Banker www.stlouisfed.org A Closer Look at House Price Indexes www.stlouisfed.org/priceindexes Julia Maués is a senior research associate, Daigo Gubo is a senior research associate and William Emmons is an economist at the Federal Reserve Bank of St. Louis. ENDNOTES 1 This article uses the CoreLogic Home Price Index. 2 St. Louis peaked in 2007: Q1, Little Rock peaked in 2010: Q2, Louisville peaked in 2007: Q1 and Memphis peaked in 2007: Q2. 3 Perfect positive correlation (a correlation coefficient of +1) implies that as house prices in one area move, either up or down, prices in the other area will move in the same direction. Alternatively, perfect negative correlation means that if prices in one area move in either direction, prices in the area that is perfectly negatively correlated will move in the opposite direction. If the correlation is 0, the movements of prices in the two areas are said to have no correlation; they are completely random. Agriculture Banks continued from Page 1 assets at agriculture banks has, by and large, remained manageable, resulting in lower loan losses. Moreover, given their business model, agriculture banks have generally had lower exposures to the weak commercial real estate sector compared with other community banks. As illustrated in the table on Page 1, agriculture banks exhibit stronger asset quality, capital protection and earnings levels than their nonagricultural counterparts. Despite strong conditions in the agricultural sector, farm debt has remained moderate. In 2010, combined farm debt held by all U.S. banks and the Farm Credit System (FCS) increased 2.01 percent from the prior year, down from a 3.51-percent increase in 2009. According to the USDA, banks and the FCS supply 80 percent of farm credit outstanding. As such, it appears the surge in land values and capital expenditures are primarily funded by cash derived from farm profits. Data also suggest that debt repayment ability of farmers continues to improve. According to Federal Reserve agricultural credit surveys, agriculture banks reported higher loan customer repayment rates and fewer loan extensions in 2010. Risk Factors for Agriculture Banks The soaring commodity prices and farm incomes that have strengthened the sector are not without risk. Escalating farm incomes and low interest rates have led to a recent surge in Earnings Growth continued from Page 3 nonperforming multifamily and nonfarm nonresidential real estate loans increased. The average loan loss coverage ratio declined somewhat at District banks in the second quarter. District banks have about 62 cents reserved for every dollar of nonperforming loans, down a penny from the first quarter level. The coverage ratio for U.S. peer banks farmland values. The sustainability of higher farmland values depends on this trend continuing. The Page 1 table also highlights another risk facing agriculture banks: the potential for over-relying on collateral values when making credit decisions. Since loans secured by farmland constitute more than twice the amount of credit extended for agricultural production, the majority of agricultural loans on an agriculture bank’s book are secured by farm real estate. In an environment of surging farmland values, lenders must therefore exert additional caution when underwriting these loans. To Summarize Overall, industry factors remain favorable for agriculture banks. However, because a concentration in any economic sector can result in volatility, bankers should ensure that strong risk management practices are in place. >> R E L AT E D O N L I N E Commodity Price Gains: Speculation vs. Fundamentals www.stlouisfed.org/commodityprices Gary S. Corner is a senior examiner at the Federal Reserve Bank of St. Louis. The author thanks Daigo Gubo, senior research associate in the Supervisory Policy and Risk Analysis unit, for contributing to this article. stood at 58 percent at the end of the second quarter. Despite the slight downtick in earnings in the second quarter of 2011, the average tier 1 leverage ratio increased 16 basis points to 9.26 percent at District banks. Buoyed by the increase in profits, the average tier 1 leverage ratio climbed 23 basis points to 9.86 percent at U.S. peer banks. Michelle Neely is an economist at the Federal Reserve Bank of St. Louis. Central Banker Fall 2011 | 7 FIRST-CLASS US POSTAGE PAID PERMIT NO 444 ST LOUIS, MO Central Banker Online SEE THE ONLINE VERSION OF THE FALL 2011 CENTRAL BANKER FOR MORE ARTICLES, REGULATORY SPOTLIGHTS AND RESEARCH AT W W W.STLOUISFED.ORG/CB BANKING AND ECONOMIC RESEARCH • Revisiting Troubled Debt Restructuring • The Foreclosure Crisis in 2008: Predatory Lending or Household Overreaching? • Are We Seeing Some Closure on Foreclosures? • St. Louis Fed Gets New IDEAS M U LT I M E D I A • What Is Your Home Really Worth? • Community Banker Panel Tackles CRA Needs RULES AND R E G U L AT I O N S • Fed Sets Regulations for Savings and Loan Holding Companies • Exempt Consumer Credit Transaction and Lease Thresholds Now $51,800 • Regulation Q Officially Disappears Get answers about important issues facing our economy and financial markets. Go beyond the headlines this fall with the St. Louis Fed’s new public discussion series. Learn more at www.stlouisfed.org/dialogue printed on recycled paper using 10% post-consumer waste Treasury Ending Paper U.S. Savings Bonds S tarting Jan. 1, 2012, the Treasury will only issue electronic versions of U.S. savings bonds. Visit the Treasury’s web site at www.treasurydirect.gov to: • buy, manage and redeem Series EE and I electronic savings bonds; • convert Series EE and I paper savings bonds to electronic through the SmartExchange feature; • purchase electronic savings bonds as gifts; • enroll in a payroll savings plan for purchasing electronic bonds; and • invest in other Treasury securities such as bills, notes, bonds and TIPS (Treasury Inflation-Protected Securities). According to the Bureau of Public Debt, ending paper bonds will save taxpayers approximately $70 million over the first five years. C E N T R A L B A N K E R | FA L L 2 0 11 https://www.stlouisfed.org/publications/central-banker/fall-2011/treasury-ending-paper-us-savings-bonds Treasury Ending Paper U.S. Savings Bonds Starting Jan. 1, 2012, the Treasury will only issue electronic versions of U.S. savings bonds. Visit the Treasury’s web site at www.treasurydirect.gov to: buy, manage and redeem Series EE and I electronic savings bonds; convert Series EE and I paper savings bonds to electronic through the SmartExchange feature; purchase electronic savings bonds as gifts; enroll in a payroll savings plan for purchasing electronic bonds; and invest in other Treasury securities such as bills, notes, bonds and TIPS (Treasury Inflation-Protected Securities). According to the Bureau of Public Debt, ending paper bonds will save taxpayers approximately $70 million over the first five years. C E N T R A L B A N K E R | FA L L 2 0 11 https://www.stlouisfed.org/publications/central-banker/fall-2011/recent-accounting-standard-update-clarifies-and-adds-guidanceto-troubled-debt-restructurings In-Depth: Recent Accounting Standard Update Clarifies and Adds Guidance to Troubled Debt Restructurings Jim Warren Many banking industry participants and analysts anticipate that the publication of Accounting Standards Update (ASU) 2011-02 earlier this year will result in additional loans being reported as troubled debt restructurings (TDR). While this outcome may be true, the update's stated purpose was to address perceived diversity in practice and concerns associated with comparability of financial information. As such, the update does not change the principal definition of a TDR, but rather attempts to provide additional clarity. ASU 2011-02 reiterates that a restructuring of a debt constitutes a TDR if the creditor—for economic or legal reasons related to the debtor's financial difficulties—grants a concession that it would not otherwise consider. The update expands on how the standard defines identifying when a borrower is experiencing financial difficulties as well as when a concession has been granted. Moreover, the revision introduces significance in the determination of a concession, prohibits a creditor's use of debtor TDR determinants and also alters disclosure requirements. Determining if a creditor is experiencing financial difficulties continues to require a significant amount of professional judgment. However, previously issued accounting literature provided some key indicators, including the following: The debtor has defaulted on debt obligations. The debtor has declared or has started the process of declaring bankruptcy. There is substantial doubt as to the debtor's going concern. The debtor's securities have been or are under threat of being delisted. Absent the restructuring, the debtor cannot obtain funds from another source at market rates available to nontroubled debtors. The debtor's cash flow is insufficient to service existing debt based upon actual or projected performance. The update further expands the first indicator noted above by stating that a creditor should evaluate whether it is probable that, in the foreseeable future, a debtor will default on any of its debt without the modification being made. This evaluation should assess whether probable changes in interest rates, interest-only periods, income or other factors will likely cause a default. As a result, a creditor may conclude that a debtor is experiencing financial difficulties despite the absence of a current payment default. Keep in mind that the aforementioned indicators are not the sole determinants of a debtor's financial difficulties, but merely a sample of potential items. New Guidance Given on Concessions ASU 2011-02 explains what a concession means for a TDR. Concessions can take many forms, including granting an interest rate below market for the risk characteristics of the loan, forgiving interest and/or principal, modifying or extending repayment requirements, and waiving financial covenants to enhance cash flow. The update states that a creditor should consider all aspects of a restructuring to determine whether a concession has been granted to a debtor, and includes the following additional guidance: A creditor may have granted a concession if the debtor is otherwise unable to access funds at a market rate for debt with similar risk characteristics as the restructured debt. A temporary or permanent increase in the interest rate does not preclude the restructuring from being deemed a concession. A creditor may restructure a debt in exchange for additional collateral or guarantees from the debtor. However, the transaction may still be considered a concession when the nature and amount of consideration received does not serve as adequate compensation for the restructuring's other terms. Lastly, a restructuring includes a concession if the creditor does not expect to collect all amounts due, including both the contractual original principal and accrued interest. "Significance" Factor Added While the primary purpose of the update is to provide further clarity around the terms "troubled financial condition" and "concession," it also introduces a significance concept that the previous guidance did not possess. The amendments in ASU 2011-02 state that a restructuring resulting in an insignificant delay in payment does not involve a concession and therefore is not a TDR. When considered together, the following factors may indicate that a restructuring will result in an insignificant payment delay: The amount of the restructured delayed payments is insignificant relative to the unpaid principal or collateral value of the debt, and it will result in an insignificant shortfall in the contractual amounts due. The delay in timing of the restructured payment period is insignificant relative to any one of the following: the frequency of payments due under the debt, the original contractual maturity of the debt or the original expected duration of the debt. As previously noted, the update also prohibits a creditor's use of debtor TDR determinants in the identification of a TDR. This prohibition resulted from the belief that some creditors used analogies to debtor guidance— such as the effective interest rate test—when determining whether an interest rate concession had been granted. Because the effective interest rate test was only intended for debtors and may result in inconsistent accounting by creditors, the update explicitly prohibits creditors from using this test. To Summarize While it is possible that the recent update could lead to more troubled debt restructurings, that was not the purpose of ASU 2011-02. It does not change the essential TDR definition, but instead clarifies what is meant by "troubled financial condition" and "concession," and adds a "significance" factor to the guidance. The revision applies to all public and private creditors, but does not add any new disclosure requirements. For public companies, the amendments were effective for the first interim or annual period beginning on or after June 15, 2011, and should be applied retroactively to the beginning of the annual period of adoption for financial statement disclosures of problem loans. For private companies, the amendments are effective for annual periods ending after Dec. 15, 2012, including interim periods within those annual periods. For more information on TDR, see this in-depth exploration in the winter 2009 Central Banker, "Debt Restructuring--Is It a Simple Refinancing or a Troubled Debt Restructuring?" Endnotes 1. The specific update is ASC Subtopic 310-40, Receivables – Troubled Debt Restructurings by Creditors, formerly FASB Statement No. 15. [back to text] 2. Various examples associated with insignificant delays in payment are illustrated within the update. [back to text] 3. Debtor TDR requirements are found in ASC 470-60-55-10. [back to text] C E N T R A L B A N K E R | FA L L 2 0 11 https://www.stlouisfed.org/publications/central-banker/fall-2011/multimedia-fall-2011 Multimedia Fall 2011 What Is Your Home Worth? In St. Louis, It Is Hard To Tell The most widely followed housing data source in the U.S., the S&P/Case-Shiller Home Price Indices, does not include the St. Louis metropolitan statistical area (MSA). While publicly available and even proprietary data can provide valuable information on broad housing market conditions in the St. Louis region, these sources do not pinpoint regional, county or neighborhood house-price trends. Even expensive proprietary data may not be satisfactory. Dr. William Rogers of the Public Policy Research Center at the University of Missouri-St. Louis has created a new index on housing value appreciation in the St. Louis market. Rogers presented his index at the St. Louis Fed’s June 2 housing conference. His findings revealed some surprises in the data collected over the past decade. Joining Rogers at the conference was St. Louis Fed economist Bill Emmons, who examined currently available St. Louis housing and mortgage market data. His presentation included a look at which public and proprietary data was the most reliable for determining the selling price of a home in the St. Louis area. Community Banker Panel Tackles CRA Needs What role should healthy community banks play in the community development arena? A panel of community bankers discussed that question at the St. Louis Fed’s Exploring Innovation conference in the spring. Panelists were: David C. Reiling, CEO of Sunrise Community Banks in St. Paul, Minn. Robert R. Jones III, president and CEO of United Bank in Atmore, Ala. Paula Bryant-Ellis, senior vice president of the Community Development Banking Group for BOK Financial Corporation in Tulsa, Okla. W. Thomas Reeves, president of Pulaski Bank in St. Louis The panelists shared their successes in meeting CRA requirements through creating products, making investments and delivering services that meet the public’s most pressing needs. C E N T R A L B A N K E R | FA L L 2 0 11 https://www.stlouisfed.org/publications/central-banker/fall-2011/new-banking-and-economic-research New Banking and Economic Research What Caused the 2008 Foreclosure Crisis? Both predatory lending and household overreaching occurred during the subprime housing bubble. But which one was the primary culprit for the foreclosure crisis? Economists and researchers want to know because the policy implications are vastly different. Identifying the cause is not an easy task, because the verdict ultimately depends on the intentions of the borrower and the lender. If predatory lending was to blame, strong consumer protection laws like those in the Dodd-Frank Act might be sufficient to avoid a future foreclosure crisis. But if household overreach was the main cause, preventing another foreclosure crisis is a much more complex policy challenge. Explore the details and conclusions in “The Foreclosure Crisis in 2008: Predatory Lending or Household Overreaching?” in the July Regional Economist. Are We Seeing Some Closure on Foreclosures? Some recent developments, including a sharp decline in long-term delinquencies, suggest that there may be an end in sight for the foreclosure woes. Read why in “Some Closure on Foreclosures?”, the lead article in the July 2011 issue of the St. Louis Fed’s Monetary Trends. St. Louis Fed Gets New “IDEAS” The St. Louis Fed’s Research web site is now host to IDEAS, a bibliographic online database dedicated to economics. IDEAS lets users browse and search over one million research works. The site also includes popularity and ranking of papers, authors and citations. C E N T R A L B A N K E R | FA L L 2 0 11 https://www.stlouisfed.org/publications/central-banker/fall-2011/rules-and-regulations Rules and Regulations Fed Sets Regulations for Savings and Loan Holding Companies The Federal Reserve welcomes comments on the interim final rule establishing regulations for savings and loan holding companies (SLHC), whose oversight transferred to the Fed from the Office of Thrift Supervision (OTS) in July. The interim final rule includes OTS-issued regulations and the Fed’s new Regulations LL and MM. You can have your say until the comment period closes on Oct. 27. Under the Dodd-Frank Act, some responsibilities of the OTS have been moved to other agencies. The FDIC is the new regulator for state savings institutions, and the Office of the Comptroller of the Currency now supervises federal savings institutions and writes the regulations for both state and federal savings institutions. Exempt Consumer Credit Transaction and Lease Thresholds Now $51,800 The Federal Reserve has increased the thresholds for exempt consumer leases and exempt consumer credit transactions to $51,800 from $50,000. The Dodd-Frank Act now requires that these thresholds be adjusted each year by the annual percentage increase in the Consumer Price Index. These increases, which take effect on Jan. 1, 2012, are based on the June 1, 2011, annual CPI percentage increase. Regulation Q Officially Disappears Member banks of the Federal Reserve System can forget about Regulation Q, which the Fed repealed in July as part of the Dodd-Frank Act. Regulation Q had prohibited the payment of interest on demand deposits by member institutions. It will not be replaced with a new regulation. The Board of Governors has removed its published interpretation of Regulation Q from www.federalreserve.gov, as well as all references found in other regulations, interpretations and commentary.