Today and Tomorrow: A Post-Crisis Credit Strategy

In a fog.

That’s how a Capital One Financial Corp. executive described how it feels to be a banker today. There’s no sense for what’s coming next, and little understanding for what has happened over the last 12 months. Forget financial modeling (Cap One’s bailiwick). Models are broken; they’re not going to tell bankers anything of value about the future until they are refilled with at least six months of current data.

Simply throwing up your hands and saying, “we’ll figure this out when the clouds part” will not cut it.

I came across one of the few cogent and succinct strategic credit roadmaps for a bank and it deserves review. The outline was buried deep within last week’s earnings call from UCBH Holdings Inc. (UCBH), a banking company with operations in the US and Southeast Asia.

Thomas S. Wu, the CEO of UCBH, was asked a rather technical question about his bank’s loan-to-deposit ratio. Wu focused his answer on what he considers to be his bank’s “very strong capital,” and its efforts to control the credit quality in its construction portfolio.

Then, Wu talked about post-credit-crisis banking and the risk of just thinking about the short-term. Here’s what he said:

At the same time, we ought to look beyond this kind of cycle. Once we are out of this cycle, what we should be concerning [us] are the possibilities and opportunities, so if we stop doing business today, all you are doing is just [focused] on your problem assets. Then once the cycle is over, your interest-earning asset will shrink tremendously, and then you don’t have interest income in the future, so it’s important for us to really focus on two things:

We really want to continue to make sure that our loan-to-deposit ratio is below 100% and that will help us to continue to do business on an ongoing basis while we are very focused on addressing the credit issues we are experiencing …

His message — to paraphrase — is that all this containment of risk adds another layer of potential financial harm that few banks are thinking about today: long-term declines in interest income. What Wu is suggesting requires a delicate touch. Contain your credit risks because that’s where a bank’s short-term grenades are housed, yet continue to extend credit in order to maintain healthy, long-term interest income.

Call it the “guns and roses” credit strategy, and it’s the antidote to the fog swirling around many executives today.