This week, TheStreet and RealMoney will be exploring the aftermath of Lehman Brothers' bankruptcy filing and the ensuing market chaos it brought to a head almost a year ago. Read all of our One Year Later coverage.
failure nearly a year ago, while at the time shocking in its size and scope, now stands as the most prominent example of an ongoing and much-needed consolidation of the U.S. retail banking industry.
WaMu was seized by regulators on Sept. 25, 2008, following a bank run by waves of nervous customers a little more than a week after
filed for bankruptcy and the federal government bailed out giant insurer
American International Group
. It was the largest bank failure in U.S. history.
The thrift built its mammoth business by taking excessive risk in originating shoddy home loans with poor underwriting standards -- a strategy that was exposed as the housing bubble burst. Its reliance on wholesale funding for loans instead of deposits put the company in an impossible position when the credit markets dried up.
WaMu wasn't the first bank to go under in the credit crisis, and it certainly wasn't the last. One hundred and four banks have failed since it did, and plenty more weak banks are sure to go under before it's all over.
But this rash of failures also presents an opportunity to stronger banks to grab more deposits as a source of funding and to expand their branch footprint -- just as
did in snapping up the carcass of WaMu. At the same time smaller banks will have trouble competing with the big four banks in lending, which will be "driven by economies of scale," says Tom Brown, CEO of hedge fund Second Curve Capital and co-owner of Bankstocks.com.
"I think you're going to see an even more massive consolidation in banking from 2010 to 2015," Brown says. "Every bank outside of the top 10 has a growth problem in terms of how are they growing their loan portfolio. I don't think they will."
The banking sector has not seen the last of loan and securities losses. Market experts point to the next wave of the credit cycle -- the commercial and commercial real estate downturn. In terms of residential mortgages, billions worth of additional option adjustable-rate loans are expected to begin resetting next year.
Banks for the most part did not enter the credit cycle with sufficient capital to absorb the level of asset quality deterioration experienced over the past two years. Many were unprofitable last year as a result of increased provisions, securities writedowns and declines in capital markets business. Moody's Investors Service predicts that many banks will continue to be unprofitable through 2010 as they continue to play catch up between provisioning and losses on residential mortgages, credit cards and commercial loans.
Of the more than 8,000 banks in the U.S., 416 institutions were deemed "problem banks," according to the Federal Deposit Insurance Corp.'s most recent tally.
"The fall of WaMu last year is just the accelerant the regulators needed in order to give a final push towards shrinking the banking system, which I think is something they've wanted to do for years," says Cassandra Toroian, president and chief investment officer of Bell Rock Capital.
"The intention of the regulators and Fed is clear -- to push the weak, smaller banks out of the market," Toroian says in an email. "We'll see hundreds of community banks go away as a result. I don't think that is necessarily a bad thing, as long as the right ones are phased out."
Not only troubled institutions are poised to be snapped up in the consolidation. Healthier banks may see this as the right time to sell as the competition for deposits intensifies. And plenty of large banks have shown an interest in growing.
, less than a month after JPMorgan picked up WaMu, succeeded in acquiring
after it was pummeled by bad Option ARMs. Soon after,
PNC Financial Services
picked up wobbling
. Last fall,
made a similar move on the West Coast, snapping up the failed
at the same time.
JPMorgan Chase, in the WaMu acquisition, acquired more than 2,200 branches, $310 billion in assets and $182 billion of deposits in 15 states -- six in which it had not previously had a presence. JPMorgan took a $31 billion writedown at the time of the purchase to cover bad loans made by the failed thrift. The company has one more major conversion of WaMu to Chase branches, which is set to take place in October, it says.
Ken Thomas, a Miami-based independent bank consultant and economist, says JPMorgan Chase's entry into attractive markets like Florida, California and deeper into Texas -- as well as Wells Fargo's takeover of Wachovia -- could adversely impact the existing banks in that area.
"These new guys come in with huge marketing budgets and intro specials that will certainly hurt some local banks in big markets, like Florida and California, where Chase is new," Thomas says in an email.
To the contrary, Dan Trigg, head of the financial institutions group at consulting firm RSM McGladrey, says there is plenty of opportunity for small banks to compete. He works with middle-market bank clients with $500 million to $5 billion in assets.
Small banks "have been burnt a little bit around the edges because they may have some condo loans
and construction real estate projects, but not near to the extent that the large banks have," Trigg says. "Where these banks are being successful is when larger banks can't deliver personalized service -- these community banks are able to step in and take care of the customers."
Trigg says banks with $3 billion to $5 billion in assets are able and willing to take on community banks with $50 million to $100 million in assets. Many have already been acquiring problem banks closed by the FDIC.
"They're going to pick their niches to compete in and focus their resources at what they're best at, rather than step back and try to be all things to all people. And that's what we're seeing a lot of the community bankers focused on," Trigg says.
Large banks are likely to shoulder much higher levels of capital, if the Obama administration gets its way, but it may provide an opportunity for smaller institutions to "compete on more equal footing because they may not be required to carry the same level of capital reserves," says John Carusone, president of the Bank Analysis Center, a consultant and investment bank for community banks primarily in the Northeast.
"It's a good time to be a smaller banker, because there is a lot of public disaffection from large money center banks that have emerged," Carusone says. "Some of the smaller institutions may view this as a competitive vacuum and therefore an opportunity for them."
As the economy continues to falter, small and regional banks that remained conservative lenders could become another alternative for borrowers looking for financing, given that many large and mid-size firms have shored up their lending initiatives.
"Frankly the small regional banks who maintained their ratios well, who have good local community lending, they're really in very good shape," says Dr. Michael Williams, Dean of Touro College's Graduate School of Business.
Williams also posed that perhaps more non-U.S. banks should look to international lending to small borrowers, as many banks are turning global in scale anyway. Williams believes that laws and guidelines that limit this type of lending should be questioned.
"Why can't you have a bank in Singapore lend to somebody in Illinois? Truly people are looking for
lending alternatives that are out of the box."
Consolidation may take out a few hundred of the worst performing banks this time around, but observers caution that small banks will still pop up at a rapid pace.
"The barriers to entry are not that significant for a financial institution," says Gerard Cassidy, the managing director of bank equity research at RBC Capital Markets. "If bank XYZ is acquired by another bank and after non-competes expire, it's relatively easy to go out, raise money and start up another financial."
-- Written by Laurie Kulikowski in New York