LENDERS, CONSUMERS STAY CAUTIOUS AMID FLUSH TIMES.

IT's a familiar scenario: The economy is strong, the stock market is booming, real estate prices go up, banks relax their loan-approval standards, and overly optimistic consumers borrow like crazy to finance a new company, buy a new car or another house.

Then the bubble bursts, share prices and land values plunge, and banks are left holding the bag on huge portfolios of soured loans.

Alan Greenspan is worried about just such a scenario. The Federal Reserve Chairman roiled Wall Street on Oct. 14 by saying that financial institutions should be careful about the kinds of loans they make, given the possibility of a sharp fall in equity markets.

But even though Southern California financial institutions were devastated by that type of scenario a decade ago, they are not especially vulnerable today.

Memories of the early '90s meltdown apparently have served to keep local banks and consumers from getting carried away during the recent heady times. Credit delinquencies in California are among the lowest in the nation, evidence that consumers are paying off their loans on time. And the non-performing loan ratios of Los Angeles banks are down sharply from five years ago, indicating they are well prepared to weather any storms on the horizon.

"When you look at credit quality in the (California) region, it's in the best shape it has been in years," said Steven Cochrane, senior economist at Regional Financing Associates in Philadelphia. "There was a time when the size of the mortgages in California was greater than the value of the houses. Now consumers are able to take advantage of the refinancing boom, enabling them to take care of their balance sheets."

Of course, bank failures are only discovered well after the fact. Loans being made today could, in theory, come back to haunt the banks that have been showing such good results. Plus, paying off credit card debt by refinancing a mortgage is a little like taking money from Peter to pay Paul, and delinquencies on bank cards remain more prevalent than those on home equity loans.

Nevertheless, the delinquency numbers point to heightened vigilance by banks to make loans as safe as they can. Despite increased competition in the banking industry for business, thanks largely to the booming local economy, institutions aren't forgetting how hard they were hurt a few years ago. Non-performing loans are down at most L.A. banks compared with five years ago, and loan loss reserves are strong.

"Thanks to their prior experience of the early 1990s, banks have become more disciplined in lending requirements," said Joe Morford, an analyst at Dain Rauscher Wessels in San Francisco. "And because of all the consolidation, commercial banks have recruited managers from bigger banks that merged, so the quality of managers is much higher today."

Then, too, there are vast differences between the L.A. economies of 1999 and 1989. While real estate prices have rebounded after being in the doldrums for years, they are only now approaching the levels of a decade ago. And while there has been lots of development activity over the past several years, there isn't the kind of pervasive speculative construction there was before.

"The economy of Southern California is as strong or stronger than any other part of the country," said Russell Goldsmith, chairman of City National Bank. "And it is growing without the kind of speculative fever and hyper expansion that we saw in the late '80s, which is cause for some optimism."

Much of that optimism has been reflected in the third-quarter earnings results for many financial institutions either based here or with a major L.A. presence. Washington Mutual Inc., Bank of America Corp., and Wells Fargo Bank, the area's three biggest financial institutions, all have reported strong earnings with low levels of non-performing loans. Local banks such as City National and East-West Bank reported record earnings, and Imperial Bank posted strong growth as well.

But there was a slight rise in non-performing loans at Bank of America and Wells Fargo, and analysts and bankers said that while the current situation is favorable, those conditions may deteriorate.

Part of it is simply due to the suspicion that the current good times might not be sustainable. The surging economy has increased competition for business among banks, and with many of them awash in cash, there is always the risk that lenders may relax their standards to put their money to work.

"It's very hard to imagine conditions getting much better," said analyst Morford. "You are likely to see more problems in non-performing assets in community-based banks, but from a very low base."

Some of that already has been happening. But still wincing with the memories of a decade ago, bankers insist that the mind-set is different.

"Competition is clearly getting much tighter for good-quality business, resulting in lower margins," said Dominic Ng, president and chief executive of East-West Bank. "As for loosening credit, there is some, but it is nowhere near where we were in the 1980s."

One way in which banks are being careful in their lending practices is by reining in consumer loans, even as they're being more aggressive in commercial and real estate lending. Consumer loans nationally grew by about 5 percent in 1998 and 1997 after growing by more than 20 percent the previous few years.

"When you look at consumer loans, you're dealing with numbers that are closely linked to jobs growth;" said Keith Legget, senior economist at the American Bankers Association.

When employment grows, consumer lending rises accordingly. And when employment contracts, consumers tend to borrow less.

One point upon which all players agree is that banks have become much better at diversifying their portfolios, not lending too much to one sector of the marketplace.

And while careful not to disagree with Greenspan, some industry watchers take issue with the idea that a fall in equity prices would necessarily lead to a rise in non-performing loans. Factors such as the extent of the equity drop, the sectors most affected, and the extent to which bank loans are secured by equity portfolios all come into play when assessing the damage.

"There is no direct impact from the stock market on credit quality," said Charlotte Chamberlain, an analyst at Jefferies & Co.

And even with respect to an indirect fallout, the L.A. economy is less vulnerable today than it was in the early '90s. That's because today's economy has a higher concentration of small and medium-sized businesses.

"Large corporations rely on equity markets to finance their expansions, so if the market turns sour, they are hurt," said Cochrane of Regional Financing Associates.

While any sell-off of Internet stocks could lead to a shakeup in that industry, bankers are quick to point out that many of those companies are still in the early stages of financing, and are getting their money from wealthy individuals and venture capitalists -- not banks.

"If you think about the technology sector, a lot of those businesses are financed by angel financing and venture capital," East-West Bank's Ng said. "Of course, we lend to hightech firms, but at later stages and with collateral that is very secure."

Finally, the prospects for further job growth in Los Angeles and elsewhere in California remain higher than in many other parts of the country where economic recovery started earlier in the decade. As long as job growth stays solid, credit quality should remain positive, industry observers said. And banks seem determined to keep from repeating the mistakes of the past.

"You have a lot of loan officers who went through the 1980s and they remember the large number of defaults," said Legget of the American Bankers Association. "It has made them more cautious."

                       Nonperforming Loans Shrinking
Percentages of nonperforming loans to total loans for the 10 largest
L.A.-based commmercial banks have generally declined in recent years.
Institution            1994   1995   1996   1997   1998   1999
Sanwa Bank California  3.19%  1.70%  1.07%  0.90%  0.65%  0.96%
Imperial               3.45   2.31   1.11   0.51   0.95   1.63
City National          3.76   2.61   2.41   1.44   0.77   0.78
Southern Pacific       1.26   2.88   3.73   1.44   2.07   3.62
East-West              1.74   0.95   1.35   1.15   0.88   0.41
Farmers & Merchants   19.50  23.22  19.31  17.05  18.39   7.08
Cathay                 7.51   6.04   4.51   3.97   3.04   3.73
General               14.12  13.56   6.88   4.55   4.53   7.07
Tokai                  2.87   3.56   3.40   1.69   1.14   0.89
Mellon 1st Business    1.37   0.29   0.04   0.06   0.10   0.08
Figures are as of Dec. 31 for each year except 1999 figures, which are as
of June 30. Nonperforming loans are defined as noncurrent loans and leases
plus other real estate owned.
Source: American Bankers Association

Banks Post Solid Third-Quarter Results

Large out-of-town financial giants as well as smaller community-based banks showed growth ranging from solid to spectacular in the three months ended Sept. 30.

Despite recent concerns over credit quality, lending continued unabated and was up almost across the board, especially in the commercial, real estate and construction industry. Continued strong job growth and home sales underpinned lending activities.

City National Bank, one of the largest of the local commercial banks, posted its 21st consecutive quarter of double-digit growth and record net income as average loans rose by 13 percent from the like period a year ago.

It did show net credit losses of $4.6 million, compared with losses of $300,000 a year ago. But analysts pointed out that its allowance for credit losses -- at $139 million -- is just 2.7 percent of outstanding loans, well above the industry standard.

"That's a lot to put away for a rainy day," said Joe Morford, an analyst at Dain Rauscher Wessels in San Francisco. "A very rough industry average (of credit loss allowances) is about 1.6 percent. Suffice it to say that they're well positioned in the area of problem loans."

The two institutions with the largest stakes in the area, giants Bank of America Corp. and Wells Fargo Bank, both posted results that exceeded analysts' forecast, thanks to revenue increases in most areas.

One possible area of concern for Bank of America was trading income, which rose from the same period a year ago but fell from the second quarter. If the stock market slips even more, that could hurt earnings as well, but analysts were sanguine about that possibility.

"Banks like BofA are in good shape to face whatever comes down the pike," said Tanya Azarchs, director in Standard & Poor's Financial Institutions Ratings group.

Wells Fargo remained in Wall Street's favor, reporting strong, growth while proceeding with its integration with Norwest Corp. The bank is combining its computer systems in New Mexico and Nevada this year and won't do so in California until next spring.

Many of the local banks reported the completion of testing in preparation for any Y2K problems, and predict that there will be little, if any, disruption from the changeover to 2000.