Portfolio AnalyticsResearch

Very small businesses foretell bank condition

A recent analysis by WAIN Street confirms what practitioners already know—how very small businesses fare foretells what happens in bank loan portfolios.  Loan portfolio quality is the primary factor affecting overall asset quality which is one of the most critical determinants of bank condition. 

Quarterly ratio-detrended WAIN Street Business Default Index
Quarterly ratio-detrended WAIN Street Business Default Index

The analysis demonstrates a strong causal relationship between WAIN Street’s Business Default Index (BDX) and actual bank loan portfolio experience.  The Solo and E20 BDX sub-indices that track the performance of sole proprietors and businesses with fewer than twenty employees, respectively, are good predictors of portfolio credit quality for a majority of cases—commercial loan, commercial real estate, and consumer loan portfolios at banks of different sizes.  Incorporating BDX data into analysis improves portfolio surveillance capabilities and provides early warning of forthcoming quarterly results to bank managers, their regulators, and policy makers.

The complete report is available here: Forecasting Bank Loan Portfolio Credit Quality