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Finding the Most-Attractive U.S. Banking Markets

Which states are the best for bankers?

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The U.S. is awash in banks. At the end of 2005, the FDIC insured 8,832 banking institutions. With so many banks to choose from, we searched for a method to narrow the field to a subset with attractive home markets. While we would never recommend buying a stock simply because of its location, comparing banks by state makes a lot of sense, primarily because interstate banking is actually relatively new.

Where are the attractive opportunities and what states should banks avoid? To find out, we compiled some statistics using information available from the FDIC. We would like to point out up front that there are some weaknesses in the exercise. Brokerage and credit card companies hold deposits, but without branches they are classified as being held at the bank's headquarters. We attempted to remove these companies from Delaware, where most are headquartered, but we're sure that a few slipped through our net in other states. Also, the source of our data is a bit dated. We are using 2005 numbers because 2006 data are not yet available, but we have not witnessed any major trend shifts in the past year, so we believe this exercise gets us to the right conclusions.

Where the Money Is�
Using the FDIC and census data, we have estimated the deposits per person for the 50 states plus the District of Columbia. Listed below are the 10 states with the highest deposits per person:

 Top Deposit Amount Per Person
South Dakota $54,550
District of Columbia $41,060
New York $36,114
Delaware $29,479
Utah $27,334
Massachusetts $26,416
New Jersey $25,448
Illinois $23,910
New Hampshire $22,554
Connecticut $21,961
Compiled from FDIC 2005 data and census data

Most of the states with high deposits per person come as no surprise to us. The East Coast states and the District of Columbia are also in the top 10 for wealth and per capita income. These are states with high costs of living and high wages, as well as a lot of competition.  Citigroup (C),  Bank of America (BAC), and  Wachovia (WB) compete fiercely on the East Coast. These big guns also face competition from smaller niche players, like  Hudson City  (HCBK), for deposits and loans. Hudson City may have just a tiny slice of the pie, but its focus on high-value mortgages corresponds well with its affluent market.

We have hunted for a reason, but we have no idea why South Dakota came out on top. The state has a lower than average unemployment rate, but its wealth and income per capita are below average. Nevertheless, the results mean that banks in this state are probably doing pretty well, but without major economic growth, this one statistic will not make the state worth entering from scratch. In addition, new entrants would be intimidated by  Wells Fargo (WFC), which dominates South Dakota, controlling more than 60% of the deposit market share.

Utah is another surprise, but one we can understand, because it falls into one of the cracks in our system. It is home to several mortgage banks that do not have traditional banking offices in the state, but hold deposits. This causes the number to be slightly inflated. But we don't want to discount the state entirely as a result. Utah has a growing economy and recently has seen its population growth rate increase. Utah's population is also the youngest in the United States, with a median age of only 27 years, giving banks years to grow along with their customers. Employment is growing at an annual rate of nearly 5%, almost 3 times the national average. These factors make it relatively attractive to new entrants and lucrative for the established banks.  Zions (ZION) has the largest market share of any branching bank, with Wells Fargo close on its tail.

Where the Money Is Not...
If we want to know where the opportunities are, we also want to know where to avoid. The bottom 10 states in terms of deposits per person fit our expectations.

 Lowest Deposit Amount Per Person
Alaska $9,732
New Mexico $10,340
Idaho $10,749
Oregon $11,758
Mississippi $12,020
Arizona $12,407
Louisiana $12,586
South Carolina $12,701
West Virginia $12,832
Minnesota $13,467
Compiled from FDIC 2005 data and census data

We note two trends in this list. Unsurprisingly, the states with the weakest economies, low amounts of skilled labor, and lowest per capita incomes appear on this list. The Middle South states and Northwestern states have small populations, with economies that were formerly dominated by industries like textiles (Mississippi and Louisiana) or agriculture (Idaho and Oregon).

Two states stick out, in our minds. New Mexico and Arizona have rapidly growing economies. The populations of both states are also expanding rapidly. These two functions create opportunities for banks, but this opportunity is tempered by the fact that job growth in New Mexico and Arizona is coming mostly from low-paid, unskilled occupations. The states also tend to have large immigrant populations that are not major users of banking products, which could help explain the lower deposit per person ratio and their high people/branch ratio (which is featured a little further down).  J.P. Morgan (JPM) and Bank of America are the major banks in Arizona, combining to hold 45% of the deposit market, while Wells Fargo is the top in New Mexico, with 21.5% of its deposit market, followed by Bank of America's 16%. These large banks are best-positioned to take advantage of the "underbanked" and growing populations of these two states.

Where the Customers Are
Since we are looking for opportunities for banks to grow, we looked for the numbers on which states have the least amount of banking coverage. We wanted to find the areas that had less competition for individual customers. We were shocked to see that the best bang for the buck appears to be in some fast-growing, well-populated states.

 Most People Per Branch
California 5,433
Arizona 5,147
Alaska 4,934
Nevada 4,685
Rhode Island 4,527
Hawaii 4,479
Utah 4,070
New York 3,896
Texas 3,844
New Mexico 3,819
Compiled from FDIC 2005 data and census data

There are more than 5,400 people in California for every bank branch, so according to these numbers, California banks have a lot less competition per customer than any other state. Bank of America holds a 20% market share in California, followed by  Washington Mutual (WM) with 16%, and Wells Fargo with 12%. Even though almost 50% of the market is held by the top three banks, there is a lot of opportunity for niche players. California's population has increased by 6% over the past five years. Banks like  WestAmerica (WABC) have carved out niches serving small businesses in the state, and  Silicon Valley Bankshares (SIVB) caters to startups in its tech haven. There are some worries, including a cooling housing market and the fact that inventive financing (think option adjustable-rate mortgages) are extremely popular in this state of sky-high real estate prices. We would carefully check the credit history and exposure of any California bank before buying its stock. The big three banks have been around for several housing cycles, and they guard their balance sheets with vigilance.

It is not at all surprising to see Texas on our opportunity list, having one branch for every 3,844 people. Every super-regional bank we know of either has or is building a presence in the state. Foreign bank BBBV is getting into the act, getting set to close on two Texas acquisitions in the fourth quarter. Texas' above-average population growth, the strong demand for oil, and an underserved population have made the state one of the two major destinations for banks looking for growth (the other being Florida). J.P. Morgan, Bank of America, and Wells have the top presence in the state, combining to be just under 50% of deposits.  Cullen/Frost (CFR) is the only large Texas-based bank left in the market. Acquisition prices, like everything else, are big in Texas, with a median price of 3.9 times book over the past two years. The sky-high pricing shows just how badly banks want a presence in this fast-growing market. There are still several smaller Texas banks left in the market that could get rolled up. Zions just completed its integration of Amegy, and the bank has already stated that it is open to new deals in the market.

Where the Competition Is
Now that we know where the opportunities appear to be, we also want to know where the crowded markets are. Fierce competition can result in banks paying up for deposits and aggressively pricing loans, which would reduce profitability in the long run.

 Least People Per Branch
North Dakota 1,505
South Dakota 1,681
Nebraska 1,708
Kansas 1,828
Iowa 1,885
Arkansas 2,027
Vermont 2,286
Kentucky 2,379
Wyoming 2,415
Wisconsin 2,417
Compiled from FDIC 2005 data and census data

The Midwest appears to be crowded. By combining tough competition with a slightly slower-growing economy and lower-than-average population growth, the Midwest appears to be the least-attractive region in the United States. Many Midwest states are dominated by rural areas. People are spread out, so a higher number of branches is needed to serve the same number of people than in an urban area. This will typically result in higher costs and a higher efficiency ratio.

These markets also tend to favor smaller banks, and the community bank is a common feature in these states. Iowa is one of the most fragmented states in the U.S., in terms of banking, and the 432 banks operating in the state have only four branches on average. No bank in the state controls more than 10% of the market. Although Wells Fargo and  US Bancorp (USB) are the largest in the state, they combine to hold only 15% of the market. This normally might create a lot of opportunity for acquisition, but with slow economic growth and a stagnant population, Iowa does not appear to be the most attractive market for banks.

The story for the rest of the list is surprisingly similar. These are some of the most fragmented markets in the United States, but with unattractive economic outlooks and rural populations, the opportunities in these states appear limited. The competition for dollars in these markets is much more rigorous than elsewhere.

A Note on Florida
If you follow bank mergers and acquisitions like I do, you realize that Florida is one of the most popular places to be right now. As a result, we expected to see the state in the top 10 of our results. The common statistic that is cited (and it's true, I double-checked it with the Census Bureau) is that 1,000 people move to Florida every day. The state has a bustling economy that comes not just from tourism, but also from many other service industries and manufacturing, as well. We hear about new deposits flooding in from retirees moving south, and with all of these things going for it, it sounded like the land of opportunity. We joke that all a banker has to do is put a sign in the window to attract deposits. So why did Florida not show up in any of our lists? Well, the answer shows us that our calculations are just clues for where to find opportunities, not definitive proof.

Florida holds about $19,600 in deposits per person, which is only slightly about the average in the U.S. The state has one branch per 3,440 people, again just about the average for the U.S. But remember, we are looking at a static number, a snapshot of the state. Think about it this way: Florida will need 106 new branches per year and $7.1 billion in deposits annually just to maintain its current standing. With that amount of money coming in, we believe that the opportunity for banks is real. It's the same reason we believe Arizona is attractive despite being in the bottom 10 of our deposits-per-person figures. Arizona's population is expected to grow by 28% over the next 10 years.

So which banks will benefit from Florida's growth? Once again, we find our biggest banks already in the states that are full of opportunity. The top 10 banks in Florida control 84% of the market. It is a concentrated market full of large banks, with the average bank having 19 branches. Bank of America controls 20% of Florida's deposit market, and Wachovia trails slightly with 18% of the market. These companies have been gaining, not losing, market share and are in a position to greatly benefit from all the growth expected in Florida.

Jaime Peters does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.