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September 21, 2021

Mid-Tier Banks Shine in the Pandemic: What They Got So Right


The outlook for banks during the second quarter of 2020 appeared largely bleak. Demand for new loans plunged as the entire public sheltered in place and adapted to other government restrictions on movement and travel imposed due to the COVID-19 pandemic. Educated people who create analytic reports about the state of the world of finance continued to write stories about the persistent uncertainty we see in capital markets: 

...With ongoing shocks to the supply and demand side, there is potential for further market disruption. Institutions and individuals may be experiencing liquidity stress, including limited access to credit. This might, in turn, increase the probability of default, especially near or in the speculative grade of corporate debt. Private debt, including corporate and household debt, has reached record levels recently, and approximately one-half of the investment-grade market currently holds a triple-B rating.

What this means is that banks of all sizes have had to re-evaluate how they do business. Their plans from 2019 were largely scrapped as they adapted to the world the way that it exists today. However, one segment of the banking sector that has done this particularly well is mid-tier banks. We want to examine what they did to find success in the middle of chaos. 

Mid-Tier Banks Find A Sweet Spot With Government-Backed Loans

One area of modern finance that is not spoken about nearly enough is how a flood of government-back PPP loans has impacted the overall economic landscape. This is a brand-new product to hit the market in response to COVID-19, and some industry players have wasted no time figuring out how they can profit from it. The mid-tier banks in particular have done well by collecting fees on these loans. Big banks also got in on the action, but the mid-tier players have made it a central piece of their ongoing operations. 

The fee structure that banks could collect on PPP loans was established as a fundamental element of the legislation itself. This is how that scale works based on the loan size: 

  • Less than $350,000  Lender's Fee: 5%
  • $350,000 to $2 million Lender's Fee: 3%
  • Greater than $2 million Lender's Fee: 1%

Additionally, banks and other lenders are able to charge an extra 1% in interest on loans they generate that are not included in the PPP loan forgiveness program. This extra interest income is meant to help offset the additional risk that a bank takes on when it creates a loan that does not fall under the PPP loan forgiveness program. 

Mid-tier banks saw revenue streams drying up in other areas of lending and decided that they would refocus their efforts on making as many of these PPP loans as they could. This, along with some other segments of their banking business which we will discuss below, led to a surprisingly strong profitability picture in 2020.

Profitability Improves In 2020 Over 2019

One of the most surprising statistics about how mid-tier banks fared in 2020 compared to 2019 is that they, on average, were more profitable in 2020 than in 2019. When COVID-19 lockdowns were in full effect, no one could possibly have predicted that this would be the outcome. The stock market took a major dip in late March and early April of 2020 as investors estimated that corporate profits would sag in response to lockdowns and other measures being taken by the federal government in response to the outbreak of COVID-19. It was a reasonable thing to think that mid-tier banks would face the same decline in profitability in 2020 that was expected to touch so many other sectors. However, these banks found ways to avoid this outcome.

Mortgage Lending and Wealth Management

These are two areas of business that significantly outperformed and helped to make up for the lack of demand for other types of consumer lending. As it stands today, in late 2021, the United States is still in the midst of a surge in demand for housing. reports that the price of housing is currently rising faster year-over-year than at virtually any other point in American history: 

The U.S. housing market has been an unlikely beneficiary from the Covid-19 pandemic.

During the pandemic, home prices have climbed at a record pace. The median price for an existing home reached over $363,000 in June 2021, a 23.4% year-over-year increase.

"You can see in just basically the last 15 months or so, we've seen a dramatic acceleration in home price growth to levels we haven't seen in decades", CoreLogic chief economist Frank Nothaft said.

This frenzy to purchase homes has to be fueled somehow, and that is where the mid-tier banks have stepped up significantly. They have been able to fatten their balance sheets on the interest and fees that they earn from all of these new mortgage loans. 

Wealth management is another shining example of something going very right for mid-tier banks during the pandemic. Individuals with considerable wealth to manage often turn to banks to help them. This means that the bank manages the wealthy individual's portfolio of investments and liquid assets to help maintain the wealth that they have created. Obviously, the bank gets their cut via fees. This was yet another area that has outperformed in the last 18 months or so since the pandemic first took hold in the United States. 


Economic Uncertainty Is Still Stunting More Growth

Although mid-tier banks have done well for themselves and deserve notice for their innovative means of achieving increased profits despite the pandemic, they still remain eager for loan demand to return to more normal levels. Unfortunately for them, a lot of economic uncertainty remains, and it is keeping a lot of consumers away from borrowing more money at this time. The uncertainty is manifesting in a number of ways. 

Wait And See Attitude

Many consumers are holding on to their current cash position at this time and not taking on unnecessary risks. It seems that although the economic picture for most people (and for the economy as a whole) has improved since this past summer. There are still a lot of people who are not quite ready to jump into anything full-force at this time.  They want to continue to see how things develop and what moves the virus will make going forward. The Delta variant has caused many to push the pause button on their spending plans at this time, and we just don't know what the next shoe to drop might be. 

Investments In Essentials 

Certain people view the economic turmoil as the perfect opportunity to invest in things that they feel they could use in the event of a complete system collapse. Numerous stories have hit the wires about gun sales and sales of essentials such as bottled water and bulk food items going through the roof. Some might say that this is an overly scared public reacting out of fear, but the bottom line is that it is happening. At this time, some value essentials like these more highly than they do investments in financial products or other services.

There are plenty of twists and turns yet to occur in the story of how banks will weather the COVID-19 storm. We have only just begun to see what might happen. That said, it is important to keep an eye on the mid-tier banks and the moves that they make. These banks have been leaders in coming up with new ways to remain highly profitable, and that is an example worth paying attention to. For more information on these developments and any questions, you may have, please contact us.