Post-merger changes in bank credit risk: 1991-2006

Abstract

Purpose

This paper aims to examine the post-merger changes in the credit risk profile of merging bank holding companies and tests whether there is an increase in credit risk after a merger due to changes in the mix of loans in the portfolio.

Design/methodology/approach

The authors use the expected variability of the credit risk of a loan portfolio based on the mix of loan types in the portfolio and the variability of the industry credit losses of each type following the standard Markowitz procedure for finding the standard deviation of an investment portfolio. The authors then test to see whether there has been a significant change in the expected variability (the credit risk profile) after a merger.

Findings

The authors find that there are significant differences in both the level and variability of loan charge-offs and non-performing loans (NPL) among the various loan categories. The authors also find significant changes in the mix of loan categories in the loan portfolio after a merger. In addition, the authors find that the expected variability in both the charge-off rate and the NPL rate rises significantly after a merger.

Research limitations/implications

This is the first of two papers looking at post-merger changes in credit risk based simply on the changes in the mix of loan types; it does not consider the actual post-merger credit performance of the specific mergers. That will be addressed in a subsequent paper.

Practical implications

Financial analysts evaluating banking merger announcements may wish to include the impact of the likely shifts in loan mix and credit risk shown in this paper as they project the likely impact of the merger.

Originality/value

This paper addresses an aspect of bank mergers that has not been addressed in the literature, the impact of mergers on credit risk. The results are likely to be useful to investors, financial analysts and regulators.

Citation

Knapp, M. and Gart, A. (2014), "Post-merger changes in bank credit risk: 1991-2006", Managerial Finance, Vol. 40 No. 1, pp. 51-71. https://doi.org/10.1108/MF-03-2013-0052