Should Banks Be Diversified? Evidence from Individual Bank Loan Portfolios

Posted: 8 Jun 2004

See all articles by Viral V. Acharya

Viral V. Acharya

New York University - Leonard N. Stern School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER); New York University (NYU) - Department of Finance

Anthony Saunders

New York University - Leonard N. Stern School of Business

Iftekhar Hasan

Fordham University - Gabelli School of Business; Bank of Finland

Multiple version iconThere are 2 versions of this paper

Abstract

We study the effect of loan portfolio focus vs. diversification on the return and the risk of 105 Italian banks over the period 1993-1999 using data on bank-by-bank exposures to different industries and sectors. We find that diversification is not guaranteed to produce superior performance and/or greater safety for banks. For high-risk banks, diversification reduces bank return while producing riskier loans. For low-risk banks, diversification produces either an inefficient risk-return tradeoff or only a marginal improvement. Our results are consistent with a deterioration in the effectiveness of bank monitoring at high risk-levels and upon lending expansion into newer or competitive industries.

Keywords: Focus, Diversification, Monitoring, Bank risk, Bank return

JEL Classification: G21, G28, G31, G32

Suggested Citation

Acharya, Viral V. and Saunders, Anthony and Hasan, Iftekhar, Should Banks Be Diversified? Evidence from Individual Bank Loan Portfolios. Journal of Business, Forthcoming. Available at SSRN: https://ssrn.com/abstract=555692

Viral V. Acharya (Contact Author)

New York University - Leonard N. Stern School of Business ( email )

44 West 4th Street
Suite 9-160
New York, NY NY 10012
United States

HOME PAGE: http://pages.stern.nyu.edu/~sternfin/vacharya/public_html/~vacharya.htm

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

New York University (NYU) - Department of Finance

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

Anthony Saunders

New York University - Leonard N. Stern School of Business ( email )

44 West 4th Street
9-190, MEC
New York, NY 10012-1126
United States
212-998-0711 (Phone)
212-995-4220 (Fax)

Iftekhar Hasan

Fordham University - Gabelli School of Business ( email )

Rose Hill Campus Bronx
New York, NY 10458
United States

Bank of Finland ( email )

P.O. Box 160
Helsinki 00101
Finland

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