Sept 6 - The acquisition of New Jersey thrift Hudson City Bancorp
by M&T Bank brings to light many of the financial challenges faced by U.S.
thrifts as they struggle to cope with tougher regulation and depressed net
interest margins (NIM) in a low-rate environment. Fitch expects other thrift
institutions to consider various strategic options, including acquisitions by
larger banks, to maximize shareholder returns.
The number of U.S. thrifts had fallen to approximately 730 as of July 2011, just
before the merger of the Office of Thrift Supervision (OTS) into the Office of
the Comptroller of the Currency (OCC) - now designated as the principal thrift
regulator. That number represents less than 10% of all U.S. financial
The Hudson acquisition, priced at a 12% premium over the bank's Aug. 24 share
price, followed a period of weak operating results in which Hudson's mortgage
book came under increasing interest rate pressure, prepaying rapidly, while the
bank's fixed-rate Federal Home Loan Bank (FHLB) borrowings limited funding
flexibility. Nonetheless, in general, the bank's credit performance has been
relatively steady. Although Hudson's non-performing loans (NPLs) have increased
compared with historical averages, net chargeoffs (NCOs) have remained
relatively low, peaking in 2010 at 31bp.
Further weighing on Hudson was the fact that it was operating under a regulatory
agreement, noting improvements to its interest rate risk-management function.
These structural and systems enhancements could be costly and further pressure
the bottom line.
As the number of institutions continues to decline, pressures to consolidate are
likely to grow, particularly given increased regulatory oversight, the impact of
the Dodd-Frank legislation, tougher capital rules, weak organic growth
prospects, and the low interest rate environment.
As thrifts come under regulatory supervision by the OCC, they may confront
tougher scrutiny on capital, liquidity, and interest rate risk management. They
face requirements at the holding company level, which represents a significant
change in the thrift charter. Thrifts are likely to face continuing problems in
building capital given their concentration in mortgage lending and securities
investments, which continue to experience declining yields due to low interest
rates. Historically, thrifts have been limited to 20% of total loans derived
from commercial lending, constraining their ability to diversify.
Further, thrift banks in general have operated with a higher cost of funds,
given the larger mix of CDs and wholesale borrowings versus traditional
commercial banks. Heavier reliance on FHLB advances and noncore deposits as
sources of funding, evident in the case of Hudson, may force the hands of many
smaller thrifts. These banks face continuing NIM compression, as mortgage rates
remain low and funding costs are above commercial bank peer averages.
Some thrifts had changed charters prior to Dodd-Frank, including First Niagara
Financial Group and People's United. A charter change could, in some cases, help
thrifts diversify and perhaps draw more core deposits, lowering their funding
costs. We expect more efforts to address strategic challenges through this
approach, but fundamental competitive obstacles, such as NIM compression, low
interest rates, and high funding costs, will not be overcome solely through