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Article published Mar 23, 2009 Community banks, credit unions avoided risks and came out ahead
Editor's note: This is the third in a five-part series of a joint project by The News-Sentinel and WANE, Channel 15. Each Monday we will look at topics facing the area and the impact on residents.
Playing it safe proved to be playing to win for many smaller financial institutions.
Smaller community banks and credit unions, generally speaking, stuck with more conservative lending and investing principles in recent years and avoided the traps that made many larger banks notorious.
Two Fort Wayne-based institutions, STAR Financial Bank and Midwest America Federal Credit Union, both enjoyed their best years ever in 2008. Though there are many differences in the way a regional bank and a credit union operate, the regulations constraining them and the markets they pursue, they have this in common: They're conservative when it comes to handling money.
“We love to make loans, but we want them to be paid back,” said Michael Woehnker, vice president of marketing and corporate communications at the credit union.
Robin Wright, executive vice president of STAR, said, “We pretty much operate STAR as a small community bank. … Our lending practices are based on solid decisions that are good for the bank and good for the borrower.”
For years, avoiding exotic financial instruments, such as mortgage-backed securities, meant that more cautious institutions passed up higher yields available for their investments. In 2008, that caution served both very well.
STAR's earnings increased 25 percent in 2008, to $14 million, and its assets increased 5 percent over 2007, to $1.67 billion. Midwest Federal did even better, compared with 2007. Its assets increased 24 percent to $441 million, its dividends paid to members increased 39 percent, to almost $11 million, and its membership expanded from about 66,000 in 2007 to about 70,000 people in 2008.
Why the strong growth in a year when massive financial debacles made the news?
Woehnker suggests that part of the reason was a “flight to quality.” People nervous about keeping their money in stocks, bonds or even in large banks that earned bad publicity may have looked for safer ways to invest. Last year, after federal guarantees for bank and credit-union deposits were increased to $250,000, they became better alternatives for people with significant wealth. And Woehnker pointed out that Midwest America privately insures its members up to $500,000 each.
But a more important reason for their strong performance last year was that both STAR and the credit union avoided perils in lending and investing that now hobble the economy.
Financial institutions can be vulnerable on both fronts.
Make too many loans by standards that are too lax, and a bank has to write off many more loans in a time when housing prices are falling and unemployment is rising. Pursue higher yields on investments by buying mortgage-backed securities, and a bank's investments take a beating when those mortgages' values begin to plummet.
In hindsight, the subprime lending markets and mortgage-backed securities look like transparently dangerous lines of business. But for competitive financial businesses, turning down the higher returns from that kind of lending and investing could be terribly difficult.
Wright, whose family helped found what would become STAR Financial Bank more than 60 years ago, pointed out that larger banks are often publicly traded.
The demands of shareholders and Wall Street analysts can push bank managers into areas of investing or lending that a smaller bank, privately owned or owned by a small circle of stockholders, has the freedom to decline.
STAR and Midwest America both had great years in 2008, but they've had to adjust their business outlook and some practices for a couple of reasons: Money for lending is harder to get, and the uncertainty in a contracting economy makes them even more conservative about lending money.
The collapse of the market in debt-backed securities - investments based on subprime mortgages, auto loans, credit cards and student loans, for example - has squeezed hundreds of billions out of the pool of money for lending, Wright said. In a single quarter of 2007, $400 billion of these debt-backed securities were issued by investment banks and other financiers.
Now about $400 million a quarter in money is available through that route, Wright said. That's barely 1/10 of 1 percent of the money made available two years ago. “Banks can't make up for all that missing money,” he said.
At Midwest America, Woehnker said, the contracting economy is the credit union's biggest concern in the coming year. If its members - such as the 3,000 or so affiliated with General Motors - fall on hard times, the credit union will suffer, too, from bankruptcies and loan defaults.
Wright said that STAR continues to follow the same general lending principles, but standards are tighter.
“We've reduced the number of unsecured loans,” he said. But he emphasized that the bank is still lending to people with steady incomes, good credit records and sustainable levels of debt.
“There is not a credit crunch for people with good credit,” Wright said.
And for the time being, diminished expectations are part of adapting to the recession.
“We're projecting very little growth this year,” he said.