story & photo
by Alexis Ann
Interview with James Cronin, President & CEO, Dime Bank
Alexis: “In today’s economic downturn with the focus on floundering financial institutions, let’s clarify what’s happening in the financial market and discuss the good news about our community banks.”
James Cronin: “First of all, community banks by and large were not directly involved in subprime lending which was really the root of the problem. Although we’ve been affected by it indirectly. Whatever those effects might be. Even though they may effect us negatively from an earnings standpoint with a reduction of capital, I think most community banks will be strong, well-capitalized institutions.”
Alexis: “How come the community banks didn’t get into the subprime lending?”
James Cronin: “First of all, most community banks like us, would adhere to a dictum: A loan is first good for the customer and secondly, good for the bank. So, if it’s not good for the customer, it’s not going to be good for the bank.”
“When we, at Dime, make a loan, generally speaking, the customer stays with us for the life of the loan. When that customer has a need for additional advice or if he/she wants to modify or refinance a loan, we’re here to service that customer.”
“In the subprime market, most of those loans were written by mortgage brokers and mortgage bankers, not bankers, and then sold to the secondary market. So, they didn’t have to live with the customer. They didn’t care about the customer. Their primary motivation was the origination fees that they would generate when the loan was closed. So they made their income, their fees and moved on to the next borrower. This is not the case with a local bank.”
“What exacerbated the problem was that we had historically low interest rates and the government was urging banks to make loans to low income borrowers under the Community Investment Act for the past 25 years. Lowering of underwriting standards enhanced the problem even more. This was particularly true of Countrywide, where they mislead potential borrowers as to what they were eligible for.”
“In a number of instances those borrowers were eligible to what we would call, contrasted to a prime loan. Yet, they put them into subprime loans. Lower down payments was another contributing factor. Loans were financed at 95 and 100% of value and all of that contributed to the real estate bubble, which resulted in the escalating appreciation of home values, which ultimately, had to come to a halt.”
“While all this was taking place, the loans were packaged and sold to the secondary market. Then, they were repackaged into securities and that’s how the investment banks in New York got involved.”
“They took these whole loans securitized them and sold them as bonds around the world. What further added to it…the Amback’s, the MBIA’s, of the world were formerly in existence to insure municipal bonds. Since there was a slow down in that market, they looked at the mortgage market as an alternative. Having little experience in that market, they went out and obligated themselves to insure these loans, thinking that they were providing AAA ratings for them. Not realizing that they were high risk loans to begin with.”
“To make the securities more attractive to investors around the world, they were now AAA rated insured. So, why would you worry? When in fact they were not and they should have been anything but AAA rated because they were too high risk.”
“The bubble burst…it actually imploded. I don’t think anyone had any idea how extensive this market had become. It’s going to take several years to get out of this excess situation that we’re in.”
Alexis: “What about the bailout?”
James Cronin: “It really wasn’t a bailout at all. The press got a hold of it and they kept repeating and repeating it and it took on a life of its own. Really, it was an effort on the part of the government to re-liquefy the banking industry because what happened was, as defaults started increasing, especially as you start looking at the MBIA’s of the world and the Bear Stearns and Lehman Brothers. Heretofore, they were AAA rated, stellar companies. Now, their paper, their securities are close to worthless. Bear Stearns’ paper and securities were worthless. Lehman is in Chapter 11, reorganizing themselves under bankruptcy. There are a number of other organizations that owned their securities and when they became worthless, losses had to be taken by investors of those securities.”
“Then, depending upon your exposure, it affected the holders of those securities from the standpoint of their earnings and their capital. There was a domino effect. When this occurred, there was a reluctance on the part of banks, not community banks so much, but investment banks to lend to each other. Then, we got into a situation that the government was trying to address–frozen credit.”
“Larger institutions didn’t have access to liquidity and since they didn’t have access to liquidity, it stopped them from buying from other institutions down the food chain, so to speak. They in return had similar relationships that were disrupted. So, before you know it, we had a seized or frozen market.”
“The government said, we need to infuse cash, not capital, cash, into the system to free up lending because it trickled down to the point that small and medium sized businesses could not access their lines of credit. So, resulting in not being able to meet payroll or buy equipment. Therefore their employees were in jeopardy and some companies have gone out of business and more will. That’s what the government was trying to address. They are going to buy some of the bad mortgages so they’re no longer on the books of the institution. The government buys some of these toxic assets and replaces them with cash.”
Alexis: “What does the government do with the toxic assets?”
James Cronin: “They can do a lot with them. The subprime had short lifespans from the standpoint of interest rates. They reprice on a periodic basis and since they were deeply discounted in the beginning when they reprice they’re going to go gradually up or above market. So, the borrower has already extended him or herself and the monthly payment is going to go up beyond their ability to pay so they’re going to default. The government buys that asset.”
“Now, that they own the asset, they don’t have to invoke those repricing schedules. They can do whatever they want. The borrower now has more ‘breathing room’. The institution that once owned it doesn’t have to charge it off. Over time, this will unfreeze the real estate market, as well. As those loans are paid down, the value of the real estate, even though it’s not escalating as rapidly it once was, will hit equilibrium and then, gradually begin to go back up again. As that occurs and the loans are paid down, eventually, those loans will become performing loans so they can be sold and the government recovers its money. Now, that’s going to take years.”
“It doesn’t mean that we, the American taxpayers are immediately out $700B. It means that the government has invested and it will earn a rate of return on it. Some, obviously will default, so there will be some losses. In some instances, there is hope and expectation that some will be returned to the private sector and they will make a profit on them. That’s what the hope is.”
Alexis: “What is Dime doing?”
James Cronin: “We have had some exposure to it because we, like many community banks, invested in Fannie Mae and Freddie Mac securities and we did this 5 to 15 years ago. Over night, they became worthless.”
“Banks still have money to lend. Local banks are still well-capitalized so we’ll still go forward doing business as usual but bank’s earnings will be lower in 2008 and depending upon exposure, some bank’s capital will be reduced, not eliminated. There could be some banks that have over exposure to those securities and they could be in trouble. Who they are, we don’t know. We know that there will be more bank failures across the country. Some because of direct exposure to subprime lending. Others to indirect meaning that they own securities…in companies that had direct exposure that they had to write down.”
Alexis: “What about the rate of loans at Dime, have you seen a decrease in the past couple of months?”
James Cronin: “We have. We have curtailed some of our lending to be prudent. We have not wanted to lend in some commercial areas. For example, we have cut back in condominium lending because we believe that the area is over saturated right now. There is more supply than demand so we cut back on that.”
“Some of our underwriting standards are becoming more stringent. We might be requiring larger down payments on commercial lending. The residential lending hasn’t been affected that much.”
Alexis: “Advice for Resident readers?”
James Cronin: “People shouldn’t panic. Most people have some exposure to the stock market, today, either directly, where they purchase on their own or through their 401K or IRAs. We’re often asked if they should get out before it goes down even more. To get out is the biggest mistake anyone can make because the market always moves in cycles. Eventually, it will come back and the only way to recover the big drop is to stay in. You can’t afford to get out. If you’re in now, stay in.”
Alexis: “Did you give the same advice in 1987?”
James Cronin: “Yes, I gave the same advice then and in roughly, six to nine months the market, as a whole, had recovered.”
