Banking Industry
• Number of banks ~7,000 decreasing (result of
consolidation, deregulation and failures)
• Number of branches ~90,000 (result of relaxed
geographical restrictions)
• About 4,000 are small banks (< $100 million in assets)
• The large banks in our economy have mostly gotten
there by means of mergers and acquisitions.
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Banks vs. Branches (1920-2010)
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Balance Sheet for a Commercial Bank
Uses of Funds
(Assets)
Sources of Funds
(Liabilities + Capital)
Cash Assets (8%)
Deposit Liabilities (69%)
FF sold/Rev repos (4%)
Borrowed Funds (16%)
Investments (19%)
Other Liabilities (3%)
Loans & Leases (55%)
Subordinated Notes & Deben (1%)
Premises (1%)
Capital Accounts (11%)
Other (13%)
(See pp. 411 & 417)
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First Three Items on Left
Cash Assets (8%):
• Vault cash (physical currency and coin)
• Reserves at the Fed
Fed Funds Sold/Rev repos (4%):
• Fed Funds sold
• Reverse Repurchase Agreements
Investments (19%): cushion in case need more liquidity
• U.S. Treasury securities
• Agency securities
• Municipal bonds
4
Fourth Item on Left
Loans and Leases (55%)
Loans
commercial and industrial
real estate
agricultural
consumer
Leases
fast-growing line of business for the big banks
fleet assets (aircraft, ships,..), rolling stock
(railroad cars, trucks,..), equipment (cranes,
generators,..)
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First Two Items on Right
Deposit Liabilities (69%):
• Transaction Deposits
• Savings Deposits
• Time Deposits (retail and negotiable CDs)
Borrowed Funds (16%):
• Fed Funds purchased
• Repurchase Agreements
• Eurodollars (dollars borrowed abroad)
• Discount Window loans
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Last Two Items on Right
Subordinated Notes and Debentures (1%)
• Subordinated to claims of depositors
Capital Accounts (11%)
• Paid-in capital (from sale of stock)
• Retained earnings
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Capital Adequacy
• Capital adequacy ratio:
Core Equity Capital
 a percentage like 6-10%
Risk-weighted Assets
• Numerator is subordinated notes & bonds + capital
stock + retained earnings
• Denominator is a weighted average of assets
• Riskfree, weight of 0.0
• Very risky assets like CDOs, weight of 1.0
• Everything else, weight in between
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Five ‘C’s of Credit
• Five “C”s of Credit:
Character (willingness to pay)
Capacity (cash flow)
Capital (wealth or net worth)
Collateral (security for the loan)
Conditions (economic conditions)
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Base Rate Pricing
• Markups to base rate include adjustments for default
risk, term-to-maturity, and competitive factors.
rL = BR + DR + TM + CF
• In this way, business loans can vary from customer
to customer.
• BR could be prime rate, Libor, or a T-bill rate.
• Loan pricing is one of most important managerial
decisions is banking.
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Fixed Income Securities (a)
Fixed income securities – pay a return according to a
fixed formula. Although payment amounts can vary,
formula is known in advance.
Issued by governments and corporations that are
designed to pay contractually a specified income over
a specified time horizon.
Fixed income securities generally carry lower returns
because of their guaranteed income characteristics.
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Different Balance Sheet Treatments
Generally used by people for income purposes rather
than for capital appreciation (as in stock market).
Assets
Liabilities
Capital
on issuer’s
books in here
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Things for Final
Last third of course.
5 Cs
3 base rate adjustments
What TIPS stands for
6 types of MM instruments
Names of 3 ratings agencies
Latest National Debt and Social Security Trust fund figures
2.7 trillion
13 + 5 trillion = 18 trillion
Other numbers:
3.7 trillion
550 billion (approx)
Know meaning of the word “notional” – principal or face value amount
Know about Commodity Futures Modernization Act
Questions end Dec 9 midnight.
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