Banks Don’t Make Money Over Time

By on July 20, 2011

As the financial stocks show absolutely no signs of strength amid all the hoopla of Apple, Chipotle and Netflix, I recall an old post by Barry Ritholtz regarding the inability of our esteemed money changing institutions to be profitable over time.  Ritholtz cited a column by the curmudgeonly and verbose Alan Abelson of Barrons, who was in turn citing research by an individual named Dennis Butler of Centre Street Cambridge Corporation.

Ritholtz quoted this from Abelson’s column:

“[Butler] duly notes the key role banks had in the financial collapse and cites “one amazing statistic,” namely that “in the aggregate, banks have never made money over time.” Instead, “like the airlines, banks historically have seemingly made money hand over fist during good times, but they give it all back when the cycle turns.”But he asks, “How many bankers suffer the same fate when it comes to their own personal financial affairs?” And the answer to that question, Dennis believes, was a major factor in setting the stage for the encompassing financial crisis we’ve recently suffered through.

More specifically, he points to what he calls “a fundamental flaw in the corporate form of business organization—the lack of personal liability on the part of the people in charge.” The absence of personal liability is why individual bankers, whose feckless pursuit of loan volumes at the expense of loan quality caused “huge losses and public burdens,” were able to “walk away virtually unscathed” and loaded with loot.

The new reforms enacted by Congress may have a salutary effect for a spell. But he thinks that in the fullness of time, they’ll be diluted by lobbying and corruption of the regulatory oversight process. “As long as the incentives for personal gain and corporate risk-taking remain in place,” Dennis dourly concludes, “we fear that episodes of over-reaching will inevitably recur.”

There was some question whether this could actually be true as it doesn’t appear anyone has actually verified (i.e. run the numbers) the assertion that banks haven’t made money over time.  It doesn’t seem outlandish, especially after the recent episode where just about every one of them would have been wiped out without government intervention.

As an aside, I initiated a position in my personal account  in the Vanguard Financials ETF (VFH) this week since it appears that investor sentiment towards the sector can’t get much worse.  The money printing going on worldwide should give the big banks a decent run of profitability until the next serious crisis strikes and they require another bailout.

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