How the Fed Is Killing S&Ls, and Why You Should Care

Savings and loans — those much-vilified institutions since the crisis of more than 20 years ago — finally may have met their maker, and that could be a bad thing for consumers.


Last week's Federal Reserve announcement that S&Ls would have to increase their capital requirementscould doom an industry that has been able to thrive largely on its ability to lend large amounts of money, primarily through mortgages, while keeping relatively low capital.

The changes are part of the new regulatory landscape that has come about in response to the 2008 financial crisis.

While the good news is that mega-failures like Washington Mutual, which was sold to JPMorgan Chase during the crisis, are taken out of play, the bad news is that consumers may feel the pain of mortgage ratesthat start rising off record lows.

"We believe that regulatory changes following the financial crisis, including the announcement of thrift capital requirement last week, have ended the viability of the thrift industry," strategists at financial services firm Keefe, Bruyette & Woods said in a research note.

"Bank mortgage lenders will need to carry higher capital against mortgage loans, demanding higher returns," KBW continued. "Higher capital requirements will not support the revitalization of the thrift industry, in our opinion, and as a result the industry will continue to fade away."

The result, KBW says, is that a reduction in competition will allow institutions in the mortgage business to charge higher rates to consumers.

Defenders of the higher capital requirements insist they are necessary to prevent meltdowns like the WaMu bankruptcy, which was the largest bank failure in history. Until a bank run decimated the company's holdings, WaMu had been the sixth-largest bank in the country.

At its peak the company boasted more than $300 billion in assets. Now, no S&L — or "thrift" as they are often called — has assets of more than $100 billion, with the largest being ING with about $95 billion, according to KBW.

Still, the industry has found itself in the crosshairs, and institutions in the thrift business will have to rely on other ways to maintain profitability now that the new rules are taking effect.

KBW asserts this could open up a big gap in the mortgage business, reducing competition and providing opportunities for investors. Mortgage-based real estate investment trusts could benefit in particular, KBW said.

But for consumers, the likely consequence will be higher mortgage costs as there is less competition in the industry, thus allowing room to raise rates, particularly on adjustable-rate loans.

"The financial metrics that allowed thrifts to be profitable — high loan-to-deposit ratios, low expenses, and high leverage — are no longer possible," KBW said. "The loss of the thrift industry has broad implications for mortgage finance in the future."

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