As a small-cap finance stock with a market capitalisation of US$1.3b, the risk and profitability of Berkshire Hills Bancorp, Inc. (NYSE:BHLB) are largely tied to the underlying economic growth of the region it operates in US. Given that banks operate by reinvesting deposits in the form of loans, negative economic growth may lower the level of saving deposits and demand for loans, directly affecting those banks’ levels of cash flows. After the GFC, a set of reforms called Basel III was imposed in order to strengthen regulation, supervision and risk management in the banking sector. The Basel III reforms are aimed at banking regulations to improve financial institutions’ ability to absorb shocks caused by economic stress which could expose banks like Berkshire Hills Bancorp to vulnerabilities. Unpredictable macro events such as political instability could weaken its financial position which is why it is important to understand how well the bank manages its risk levels. Sufficient liquidity and low levels of leverage could place the bank in a safe place in case of unexpected macro headwinds. Today we will be measuring Berkshire Hills Bancorp’s financial risk position by looking at three leverage and liquidity metrics.
Is BHLB’s Leverage Level Appropriate?Banks with low leverage are exposed to lower risks around their ability to repay debt. A bank’s leverage can be thought of as the amount of assets it holds compared to its own shareholders’ funds. Though banks are required to have a certain level of buffer to meet its capital requirements, Berkshire Hills Bancorp’s leverage level of less than the suitable maximum level of 20x, at 7.86x, is considered to be very cautious and prudent. With assets 7.86 times equity, the banks has maintained a prudent level of its own fund relative to borrowed fund which places it in a strong position to pay back its debt in times of adverse events. Should the bank need to increase its debt levels to meet capital requirements, it will have abundant headroom to do so.
How Should We Measure BHLB’s Liquidity?As above-mentioned, loans are quite illiquid so it is important to understand how much of these loans make up Berkshire Hills Bancorp’s total assets. Usually, they should not be higher than 70% of total assets, but its current level of 74% means the bank has lent out 3.55% above the sensible upper limit. This indicates that revenue is dependent on this particular asset but also the bank is more exposed to defaulting relative to banks with less loans.
Does BHLB Have Liquidity Mismatch?Banks operate by lending out its customers’ deposits as loans and charge a higher interest rate. These loans may be fixed term and often cannot be readily realized, conversely, on the liability side, customer deposits must be paid in very short notice and on-demand. This mismatch between illiquid loans and liquid deposits poses a risk for the bank if unusual events occur and requires it to immediately repay its depositors. Since Berkshire Hills Bancorp’s loan to deposit ratio of 100% is higher than the appropriate level of 90%, this level places the bank in a relatively dangerous territory to go into negative discrepancy in liquidity. Basically, for $1 of deposits with the bank, it lends out over $0.9 which is imprudent.
Today, we’ve only explored one aspect of Berkshire Hills Bancorp. However, as a potential stock investment, there are many more fundamentals you need to consider. There are three key aspects you should further examine:
- Future Outlook: What are well-informed industry analysts predicting for BHLB’s future growth? Take a look at our free research report of analyst consensus for BHLB’s outlook.
- Valuation: What is BHLB 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 BHLB is currently mispriced by the market.
- 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.