Community bank CEOs reflect on industry crisis

SANDPOINT — For small bank customers, the dark clouds that loom over Wall Street and Washington are starting to look like the shadows of colossal dominoes that, after teetering for most of the year, have begun to tumble their way.  

As a consequence, the U.S. government has become a huge, if reluctant, holding company for the nation’s largest banks and mortgage lending firms. 

This summer, Federal Reserve Chairman Ben Bernanke and Treasury Secretary Henry Paulson assured the nation that the fallout from the sub-prime mortgage debacle had been “contained.” That announcement was being made even as the two men were still hauling sputtering mortgage financers Fannie Mae and Freddie Mac out of deep financial waters and attempting governmental CPR.

But the orgy of greed and the drunken binge of easy money that characterized the sub-prime lending craze would not be so easily restrained. Like a fraternity kegger gone wild, the sub-prime party grew in size and enthusiasm until the financial cops had to be called in.  In the light of this figurative morning after, the government is sifting through the wreckage and trying to assess the damage.

Lehman Bros. was found passed out on the lawn. The largest insurance company in the world, American International Group, had to be dragged out by the heels, while Bank of America had to prop up a semi-conscious Merrill Lynch and promise to take it home.  Just as it seemed that everyone was accounted for, the last and largest casualty of over-consumption stumbled down the stairs and landed in a pratfall at the government’s feet.

This past week, the crash of Seattle-based Washington Mutual marked the biggest bank failure in American history. The Federal Insurance Deposit Corporation (FDIC) seized the bank and its $307 billion in assets, then quickly flipped the new acquisition over to JP Morgan Chase for $1.9 billion.

WaMu’s failure chalked up the 12th bank closure so far this year (see sidebar) and, according to Bernanke and Paulson, underscored the urgency for their proposed $700 billion bank bailout plan.

At the local and regional level, there are banks that purposefully avoided the pitfalls of sub-prime mortgage lending and turned their backs on the so-called “creative” lending vehicles that drove a steady flow of cash on the front end, but ended up as a virtual flood of home foreclosures when the housing market went soft.

Sandpoint-based Intermountain Community Bancorp (IMCB) — parent corporation of the local Panhandle State Bank — and Coeur d’Alene-headquartered Mountain West Bank, which last week held the grand opening of its Sandpoint financial center, have built their asset base by operating a network of small, community banks that combine to create a regional presence.

Curt Hecker, president and chief executive officer for IMCB, and Jon Hippler, Mountain’s West’s president and chief executive officer, are leading their organizations through the fallout caused by failed investment banks and those lenders who were dragged down by sub-prime mortgages. Last week, both CEOs discussed how the current financial crisis affects local banks, as well as what they believe sets them apart from the larger firms that have monopolized headlines this year.

Do you think local banking customers make the distinction between the failed investment banks and the community banks where they keep their money?

Hippler: Earlier on, there did appear to be quite a bit of confusion and we were getting calls about what was going on with banks in general.  But I think over the past few weeks that, yes, they do understand that there is a difference between an FDIC-insured commercial bank and an investment bank.  Of course, now there are no investment banks left.

Hecker: In general, no.  Not all people are knowledgeable about the differences between a commercial bank and an investment bank or a mortgage bank. There are people who do have a familiarity with that, but in general there has not been an understanding by the public about the differences in how they are regulated or not regulated.  And the media hasn’t done a lot to make that distinction.

How do community banks differ from the banks that are in the news? 

Hippler: If you look at some of the root causes out there, the sub-prime mortgage crisis kind of led it all off.  Community banks really weren’t impacted by that, as far as having any of that stuff in their investment portfolio.  At the national level, the sub-prime crisis evolved into one of a liquidity credit crisis, where you’ve got these big banks who refuse to lend to one another.  Those investment banks who needed billions of dollars a day to operate and couldn’t get it from their traditional sources – that’s what really killed Lehman Bros. and Bear Stearns. 

That really hasn’t filtered down to the local level, thank goodness.  In fact, we’ve seen our deposits grow in the last few weeks as people bring their money to where they have a comfort level because they can see the building and talk to the people.

So, indirectly, we have been impacted by what’s going on in the real estate and construction markets, but, directly, we don’t have the issues that have brought a lot of these other places to their knees.

Hecker: Given that this is led by the mortgage crisis, banks that have been heavily invested in the one- to four-family mortgage loans as the end game have been hurt.  Washington Mutual is an example of a bank whose primary assets on the books were in mortgage loans.

Speaking for ourselves, we carry a combination of agricultural loans, general manufacturing, commercial and industrial loans, Small Business Administration loans and commercial real estate loans in addition to residential loans.  So we have a lot more diversity and our depositors’ portfolios are not tied up in those mortgage loans.

As this financial crisis plays out, will community banks suffer the consequences from the actions of the larger players?

Hippler: Clearly, banking, in general, has got an image problem.  When you say “banks” or “banking,” I don’t think the average citizen’s reaction is positive.  But upon reflection, I do think they understand that certain kinds of banks – and I’m referring to the community banks in their own back yards – didn’t take the kinds of risks that the bigger banks did. 

Washington Mutual’s single biggest problem was their huge investment in option-adjusted ARMs (adjustable-rate mortgages), whereby the customer can basically pick his own payment.  We looked at that and said, “that’s just silly” and chose not to make those kinds of loans and never did.  Did we miss out on some profits in the early going?  Sure.  The Washington Mutuals of the world were raking it in big time until a couple of years ago.  But, obviously, in the end, it turned out to be their biggest problem.

What do you think of the bailout plan?

Hecker:  Many years ago, the “too big to fail” legislation was considered, but it was never taken anywhere.  Banks have continued to consolidate and we now have very, very big financial institutions – huge financial institutions – to the point where, if anything were to happen to them, it would have very serious negative impacts on the economy as a whole.  We did not address it and we continue to let those companies get bigger.  I just don’t think that is right.  If a company gets to a size where it would have to require a taxpayer bailout like this, we shouldn’t allow them to get that big. 

I’m a proponent of having more, smaller companies because it’s much more diversified and there’s more of an individual relationship focus.

From a political standpoint, small can be good.  That’s something we’ve centered our whole business strategy around, and it’s worked for us.

From a business standpoint, what are you focusing on right now?

Hecker: We have always been conservative, in terms of our capital and liquidity, relative to our peer groups and this is a time where we are even more focused on that to make sure we continue to keep the bank safe.  Without question, my biggest priority is to make sure we maintain our liquidity levels and continue to serve our existing customers.

In terms of prospecting and looking for significant new lines of business, that’s something we will reduce the activity in.  Our whole marketing strategy has really been to look at expanding our networking relationships within the bank and take care of our existing customers first and foremost.  When times are tough, we focus even more on that. 

Hippler:  I think the biggest thing that citizens ought to know is that, at the community banking level, things really haven’t changed a great deal.  We’re making loans and we’re competitive on deposits and things are in pretty good shape.  Hopefully, the ills of the big boys that we’re all reading about are never going to be a local issue.