Diversification in Banking: Is Noninterest Income the Answer?
40 Pages Posted: 15 Nov 2002
Date Written: November 14, 2002
The U.S. banking industry is steadily increasing its reliance on nontraditional activities that generate fee income, trading revenue, and other types of noninterest income. This paper assesses potential diversification benefits from this shift. At the aggregate level, declining volatility of net operating revenue reflects reduced volatility of net interest income, rather than diversification benefits from noninterest income, which is quite volatile and has become more highly correlated with net interest income. At the bank level, growth rates of net interest income and noninterest income have also become more correlated in recent years. Finally, greater reliance on noninterest income, particularly trading revenue, is associated with higher risk and lower risk-adjusted profits. These results suggest few obvious diversification benefits from the ongoing shift toward noninterest income.
Keywords: Banks, risk, diversification
JEL Classification: G21
Suggested Citation: Suggested Citation