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We present a framework that accounts for how interest rates affect risk-taking by borrowers indirectly, by changing the borrower's demand for credit (investment size). We find that this borrowing demand effect runs counter to the direct borrowing rate effect, and risk-taking can increase or decrease with higher rates depending on the relative strength of these effects. We show that the borrowing rate effect dominates when the borrower's share of project returns is increasing in investment, so risk-taking increases with interest rates. However, the borrowing demand effect dominates when the borrower's share of project returns is declining with investment demand, so that risk-taking decreases with higher interest rates. These results contribute to the understanding of linkages between monetary policy and financial stability. We apply our findings to study how lender competition affects risk-taking. [ABSTRACT FROM AUTHOR]

We present empirical evidence documenting how increased competition can a affect the fragility of banks using U.S. banking data from 1990 to 2005. In particular, we find that local banks belonging to community (CBOs) and regional banking organizations (RBOs) increased their share of CRE loans as competition from large banking organizations (LBOs) increased. The paper traces the build-up in CRE concentrations in such local banks before the financial crisis to the expansions of LBO activity into local banking markets. After instrumenting for LBO entry into new markets, we find a steady and continuous increase in CRE loan shares at local banks. CRE concentrations were a principal cause of post-crisis bank failures and this paper presents evidence showing how competition increases not just individual bank fragility, but the stability of the banking sector as a whole. [ABSTRACT FROM AUTHOR]

Sectoral loan concentration is an important factor in bank performance. We develop a measure of sectoral loan concentration and study how community bank performance and the size-performance relationship vary with loan concentration and changes in loan concentration. The size-profitability relationship varies with concentration in the residential real-estate (RRE) sector. Higher RRE concentration is associated with lower returns especially for larger community banks--banks with assets totaling a billion or more. Concentration in other sectors, such as agriculture and commercial real estate (CRE), is significantly associated with risk of bank failure or acquisition. Results for changes in concentration appear to be driven by the boom in CRE. Large positive (negative) changes in CRE concentration are both preceded and followed by large increases (decreases) in overall returns. Banks that switch specializations increase the hazard of failure but decrease the odds of being acquired. [ABSTRACT FROM AUTHOR]

We analyze equity issuance by publicly-traded U.S. banks during 2001-2014 through exchanges (SEOs), private placements (PIPEs), and TARP. Equity markets were important for bank recapitalization in the crisis, when SEO and PIPE issuance peaked. We find that bank characteristics predict issuance whereas trading indicators influence issuance type. Large, well-capitalized banks with quality loans were more likely to issue. PIPEs served weaker, capital-constrained banks, while SEOs and TARP were selective. Bank illiquidity was another incentive to issue. Banks with lower trading activity and wider spreads were more likely to issue TARP over SEOs. Our findings suggest TARP aided private issuance, which was used to repay TARP. [ABSTRACT FROM AUTHOR]

A metric of credit score performance is developed to study the usage and performance of credit scoring in the loan origination process. We examine the performance of origination FICO scores as measures of ex ante borrower creditworthiness using loan-level data on ex post performance of subprime mortgages. Parametric and nonparametric estimates of credit score performance reveal different trends, especially on originations with low credit scores. The data suggest a trend of increased emphasis on higher credit scores accompanying a trend of increased riskiness in other origination attributes. Over time, this increased emphasis on credit scoring coincided with deterioration in FICO performance largely due to the fact that higher credit score originations of later cohorts were more likely to have riskier attributes. However, controlling for other attributes on originations and changes in economic conditions, we find that, as measures of borrower ranking, FICO performance on subprime loans over the years remains fairly stable. [ABSTRACT FROM AUTHOR]