Nov 14 - Fitch Ratings believes that loan loss reserve releases by U.S.
banks will continue, albeit at a declining pace as banks begin to approach
normalized provisioning and net chargeoffs.
After building up reserves to very high levels as a result of the crisis, many
banks have been releasing reserves given improving asset quality trends. This
trend in declining levels of loan loss reserves is catching the attention of the
regulators, who are sharpening their focus on the level and magnitude of reserve
releases amid an uncertain economic environment.
U.S. Comptroller of the Currency Thomas Curry indicated in an Oct. 29 speech
that regulators are monitoring the level of reserve releases closely, and that
they are prepared to act if banks were judged to be releasing reserves solely
for the purpose of boosting earnings. Reported earnings benefit when banks
report provision expenses below quarterly net chargeoffs or even report negative
Data collected from 30 Fitch-rated U.S. banks show that the industry continues
to report provision expenses less than net chargeoffs. However, reserve releases
have exhibited an overall declining trend among the majority of banks over the
past several quarters. Third-quarter releases totaled $6.2 billion for that
group of 30 banks, compared with $8.8 billion a year ago. There have been some
outliers to this general trend from quarter to quarter, most recently driven by
clarified accounting guidance in third-quarter 2012.
Overall loan loss reserves for the entire banking industry continue to decrease
from their peak. The level of reserves to loans has fallen from a post-crisis
high of approximately 3.5% for all FDIC-insured commercial banks and savings
institutions in first-quarter 2010 to 2.4% at June 30, 2012, though still above
Prior to the crisis, reserves to loans hovered around 1%. Fitch assumes that the
regulators will likely not permit reserve levels to approach 1% again, and they
will likely settle at a higher level for the industry. Greater caution in the
post-crisis period will likely keep regulators from allowing that ratio to fall
to that level, in our opinion.
Reserve coverage of non-accrual loans is at a level (107% in second-quarter
2012) that could also cause concern for regulators in light of the scope of
macroeconomic risks that still cloud the credit horizon. Comptroller Curry has
recently cited weak economic growth and continuing softness in real estate
markets in supporting the view that non-accruals are likely to remain an issue,
even though they are well off of peak levels.
We expect reserve releases to taper off throughout 2013 when normal provisioning
will need to occur to cover chargeoffs. Even if asset quality levels off or
improve modestly from current levels, problem assets still remain relatively
high for the industry. More substantial improvements in credit quality will
likely require a brightening of the economic picture, sustained improvements in
residential and commercial real estate, and clarity on fiscal policy.