The Relative Riskiness of Various Asset Focus Alternatives in Banking

Abstract

This research examines whether the risk of focused banks is higher than that of diversified ones. Focused banks are defined as those with a large proportion of assets in one of six narrow industry segments including agricultural loans, credit cards, commercial lending, mortgage lending, consumer lending, and other focused loans. It also compares the relative levels of risk of those focused banks. This study takes a bank supervisor approach rather than adopting the perspective of a shareholder. It differs from similar work in the past because it compares focused banks to a sample including only diversified banks. Other studies, in contrast, compared one focused peer group to a comparator group of all banks but for the one focused group. Thus,the comparator group included both diversified and focused banks. The data in this study confirms the major hypothesis that banks following a diversified strategy are less risky than banks following an industry-focused approach. Interestingly, our study finds that, despite being more risky, the focused groups reported return-on-asset ratios below those of the diversified comparator groups in the majority of our comparisons. This study is also the first to examine the relative levels of risk of different bank asset focus strategies.