The Garrett, Watts Report (Chinese New Year Issue)

To Our Clients, Colleagues and Friends, 

• Overwhelmed managing your 40-50 employees?  Let’s look at the number of employees at the biggest banks.

A few others are BB&T (32,809), Suntrust (28,015), Comerica (9,385), City National ( Los Angeles , 2,891), Sterling Financial ( Spokane , 2,601), Umpqua (1,840), Capitol Bancorp ( Michigan 1,345).

• By the way, if you’re under a certain age, you might stay up night wondering what the heck PNC stands for. It goes back to it’s being Pittsburgh National Bank and then, presumably, Pittsburg National Corp. Now you know.
• The loans-to-deposit ratio at individual institutions is always interesting to us, so we looked up some data in the FDIC Quarterly Report. Total loans among all banks is $7.28 trillion and total deposits is $9.22 trillion.  That’s a 79% loans-to-deposit ratio, and that’s a good target number for most banks.
• Those of you who aren’t commercial bankers might ask what the heck is the loans-to-deposit ratio?. Essentially, it’s this:  (1) You have $100 in deposits.  (2) How many of those dollars do you put into loans?  That’s it.  Mortgage bankers ask us where the rest of the money goes if not into loans, and the answer is that it should mostly go into highly liquid securities, not necessarily chosen for their yield, but to give you maximum liquidity.  Unlike a mortgage bank, the commercial bank has depositors, and when they come in to make a withdrawal, you need liquidity.
• We’re really simplifying this, but think of those dark days when people lined up outside Indy Mac branches to pull their money out. If Indy Mac had a loans-to-deposit ratio of, say 60%. Let’s also say they had $10 billion in deposits, then that would have meant $6 billion would have been in loans and $4 billion in highly liquid instruments like T-bills.  That low ratio and all that liquidity would have been noticed, reassuring, and might have prevented or stalled government seizure. We have no idea what the actual numbers or situation was there, but you get the picture.
• Okay, are you now starting to see why this is interesting stuff? On one hand, investing your deposits in loans will make you more money than putting too much into T-Bills or Treasury bonds, right?  Making 5% loans is better than 1% government paper, obviously.  You want to have enough liquidity but not too much, so there’s a balance you need.  But this is just Freshman Loans-to-Deposit Ratio Analysis.  The Upper Division course also looks at this ratio as a means of managing credit risk.  Assuming you have enough liquidity, you also want to lower that ratio going into economic tough times (i.e. make and hold fewer loans). Getting it right is more art than science, but think of those banks that should have lowered that ratio in 2005. Making fewer loans then would have saved a whole lot of pain in the next few years.
• Commerce Bank (Cherry Hills, NJ) was one of the nation’s most profitable banks till it was sold to Toronto-Dominion Bank a few years ago, and their stock out-performed Microsoft, Intuit, Apple and everyone else for a 20 year period.  Here’s the interesting part:  As successful as they were, their loans-to-deposit ratio was rarely over 35%!  They made all their money just getting cheap or free deposits, and they just never made many loans.  Put another way, having too high a loans-to-deposit ratio means that a bank either doesn’t know how to get low-cost deposits or has chosen not to seek them out.   If it’s the latter, not seeking low-cost deposits means you’ll go for higherrated deposits, and if you do that, you’ll probably have to go after higher yielding loans to make your spread, and that’s typically not a wise thing to do.  That’s enough classroom for today, so let’s move on.
• Is there going to be a real estate bubble in China ? Well, you know all those shiny new high-rises in Beijing ?  There’s a slide show out there showing 55 of them that are 100% vacant, with another 12 that have to be photographed so they can be added.  Not good.

• President Kennedy used to speak of a nuclear war as one in which the survivors would envy the dead.   After Hiroshima was bombed, a small number of survivors sought shelter in nearby Nagasaki where they were hit with another nuclear bomb!  Shockingly 165 of them survived both bombings. The Last Train from Hiroshima is a new book that follows these 165 people and all the horrors they went through. We read bits & pieces, and Kennedy was right. If you were a survivor, you envied the dead.
• We read a lengthy American Banker article (Feb 24) on Indy Mac and OneWest Bank, and the article said that at the time of its seizure, Indy Mac had the “highest cost funding (i.e. deposits) of any bank in the country.” Along with the Texas Ratio, having extremely high-cost deposits is a good predictor of failure.
• Two summers ago we were at Boulevard Bank in the St. Louis area, and we were walking down the street with one of their executives when we saw a National City branch.  We stopped and stared at the sign in the window advertising unusually high CD rates, and we both had the exact same reaction:  “These guys are going to be toast.”  And they were.  If you want to see if a bank is in trouble, compare their CD rates to everyone else.
• We just watched the Chinese New Year’s Parade in San Francisco , and it’s a real favorite.   Miles and miles of floats and marchers and 300,000 people lined up on the streets watching and cheering.  It’s quite something to watch people celebrating this ancient culture and having a Western City so thoroughly embrace them.  Wells Fargo had as great float featuring, what else, The Stagecoach. Gung hay fat choy.
• Does anyone remember Sam Bowie?  In 1984 he was the second pick in the NBA draft, chosen ahead of Michael Jordan!  You have to wonder which General Manager made that bonehead choice.
• We were just listening to End of the Century, the Ramones album produced by Phil Specter. Isn’t it sad how things ended for all of them?  Joey and Johnny Ramone died of cancer at a very young age.  Dee Dee Ramone died of a heroin overdose. And producer Phil Specter killed a woman and will spend the rest of life in prison. (We don’t know what happened to Marky Ramone.) If you have a love of music, if you like the absurd, and if you were ever a high school student, you should rent Rock ‘n Roll High School .  It stars the Ramones, and an added bonus is that Ashwin Adarkar’s sister can be seen briefly as a dancing cheerleader in one scene. Here’s a clip for your viewing pleasure:    Rent it tonight.
  
• Most of you who’re mortgage bankers get 2-3 pages of financials every month.  A balance sheet and an income statement, and probably a report showing you production numbers by branch.  Those of you who are commercial mortgage bankers have monthly financials (essentially, a Board packet) that’s 100-150 pages in length. We think the composition of Board packages is really important.  We could go on for hours about how important presentation is, how the reports look, visuals and the like.  The issue is that you’re asking Board members to wade through all these pages and make key decisions that affect issues of risk management. We like seeing tabs, pagination, and having all numbers spread out over 12 months.  Graphs can be helpful, but they can also be overdone.  We’d love to see what the Board package looks like at a mega-Bank like Wells or Chase.  When you have a bank with so many moving parts, it’s critical how you present the information to Board members in a way that doesn’t overwhelm them. And that’s not just true for a trillion dollar bank but also for a $50 million bank.
• With all the trouble that Toyota is having, you can see a salesman saying, “Look, it’s still a great car.  A Toyota ’s a Toyota !”  And that last sentence, “A Toyota’s a Toyota ”?  It reads the same back-to-front and front-to-back.  Cool.

• We’ve written here a lot about how correlation does not necessarily mean causation, and a perfect example is Mr. T.   Remember him, the mean-looking boxer with a Mohawk who fought Rocky Balboa? A study was done that showed that when each of his movies was released, it marked an exact point in time when gold prices made a major move.  
  

Regulators seem to believe that brokered deposits lead to high-risk loans, and we believe the opposite, that the high-risk loans lead to brokered deposits.  For those of you with time on your hands, maybe you can find a correlation between high-risk lending practices and the release of movies starring Mr. T.   Please let us know what you find out.

• Cal brags quite a bit about its 26 Nobel Prize winners, and they may have a 27^th in the wings. Berkeley researchers have found that beer is a rich source of the form of silicon that increases none density and prevents osteoporosis.
• Golf Savings ( Mountlake Terrace , WA ) is the model for every mortgage banker who dreams of owning thrift.  It’s almost exclusively mortgage banking driven, is 100% retail, with off-the-charts profitability. The fellow who runs it is Donn Costa , and it’s really refreshing to know someone that successful and that humble.  Anyway, we were talking to him over dinner last week, and he mentioned that he reads US magazine.  How cool is that?  We confessed to subscribing to PEOPLE magazine (not buying occasionally, but actually subscribing), and isn’t it reassuring to find other respectable people who read the same trash?  Our theory is that if you only read it when you go to the dentist twice a year, you’ll never be able to keep up on Lindsay Lohan’s latest rehab or who Jennifer Aston is dating.  People, this stuff is important!
• We just got an e-mail from a friend telling us that Love Story was on TV tonight. Aside from the fact that whatever’s on TV in Detroit probably isn’t on TV in San Francisco , it really brought back memories of the 70’s.  Love Story was about a couple of Harvard students where they fall in love, and then the girl gets something awful like leukemia and dies.  The big line was “Love means never having to say you’re sorry.”  It was one of those movies where your date would sob when Ali McGraw dies and you were supposed to act all broken up yourself like you really cared.  Al Gore supposedly claims he was the model for the boyfriend who was enough of a dork that Gore might have been telling the truth.  Anyway, if the movie shows up on your local TV station, find something better to do.
  

Two of us spoke at the Seattle Mortgage Bankers Association dinner last week, and we can’t begin to tell you how impressed we were with this group.  Lots of local MBA groups have died out over the years, and the one in Seattle is very much alive and doing well. And isn’t Seattle one of the most beautiful cities?

Garrett, Watts & Co.

“Helping lenders increase revenues, control costs, and better manage risk.

• Corky Watts      ([email protected]) 
• Joe Garrett      ([email protected])
• Mike McAuley   ([email protected] )