Why PacWest Bancorp (NASDAQ:PACW) May Not Be As Risky Than You Think

Post-GFC recovery has led to improving credit quality and a strong growth environment for the banking sector. Economic growth impacts the stability of salaries and interest rate level which in turn affects borrowers’ demand for, and ability to repay, their loans. As a small-cap bank with a market capitalisation of US$4.3b, PacWest Bancorp’s (NASDAQ:PACW) profit and value are directly affected by economic activity. Risk associate with repayment is measured by the level of bad debt which is an expense written off PacWest Bancorp’s bottom line. Today I will take you through some bad debt and liability measures to analyse the level of risky assets held by the bank. Looking through a risk-lens is a useful way to assess the attractiveness of PacWest Bancorp's a stock investment.

Check out our latest analysis for PacWest Bancorp

How Good Is PacWest Bancorp At Forecasting Its Risks?

PacWest Bancorp’s ability to forecast and provision for its bad loans indicates it has a good understanding of the level of risk it is taking on. If the bank provisions for more than 100% of the bad debt it actually writes off, then could be considered to be relatively prudent and accurate in its bad debt provisioning. Given its high non-performing loan allowance to non-performing loan ratio of 166.98% PacWest Bancorp has cautiously over-provisioned 66.98% above its current level of non-performing loans. This could indicate a prudent forecasting methodology, or indicate that further bad loans are expected.

How Much Risk Is Too Much?

PacWest Bancorp’s operations expose it to risky assets by lending to borrowers who may not be able to repay their loans. Loans that cannot be recovered by the bank are known as bad loans and typically should make up less than 3% of its total loans. When these loans are not repaid, they are written off as expenses which comes out directly from PacWest Bancorp’s profit. Since bad loans only make up an insignificant 0.44% of its total assets, the bank may have very strict risk management - or perhaps the risks in its portfolio have not eventuated yet.

How Big Is PacWest Bancorp’s Safety Net?

PacWest Bancorp profits from lending out its various forms of borrowings and charging interest rates. Deposits from customers tend to carry the lowest risk due to the relatively stable interest rate and amount available. The general rule is the higher level of deposits a bank holds, the less risky it is considered to be. PacWest Bancorp’s total deposit level of 90% of its total liabilities is very high and is well-above the sensible level of 50% for financial institutions. This may mean the bank is too cautious with its level of its safer form of borrowing and has plenty of headroom to take on risker forms of liability.

Next Steps:

PACW's acquisition will impact the business moving forward. Keep an eye on how this decision plays out in the future, especially on its financial health and earnings growth. I’ve bookmarked PACW’s company page on Simply Wall St to stay informed with changes in outlook and valuation. This is also the source of data for this article. The three main sections I’d recommend you check out are:

1. Future Outlook: What are well-informed industry analysts predicting for PACW’s future growth? Take a look at our free research report of analyst consensus for PACW’s outlook.
2. Valuation: What is PACW worth today? Has the future growth potential already been factored into the price? The intrinsic value infographic in our free research report helps visualize whether PACW is currently mispriced by the market.
3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

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If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.