Reducing the Risk at Small Community Banks: Is it Size or Geographic Diversification that Matters?*

Mergers and Acquisitions of Financial Institutions: A Review of the Post-2000 Literature

“…Buch et al (2005) compared actual versus optimal cross-border portfolios for banks in France, Germany, the UK, and the U.S between 1995 and 1999; they conclused that banks overinvest domestically and therefore could realize potential diversification gains from further international expansion. 9 A handful of recent studies have examined the impact of geographic expansion within the U.S. Emmons et al (2004) examine two aspects of hypothetical mergers between actual U.S. commercial banks: increased bank size and increased geographic scope. They found that mergers between small community banks located in different geographic markets reduced risk by no more than mergers of similar-sized banks located in the same market.…”

Corporate Governance, Opaque Bank Activities, and Risk/Return Efficiency: Pre- and Post-Crisis Evidence from Turkey

“…Larger banks manage their portfolio risk more efficiently and reach a more optimal risk/return profile. As Emmons et al (2004) notice, larger banks have a larger customer base and the overall portfolio is less subject to negative credit and liquidity shocks from individual customers. Larger Turkish banks can exploit their relative market power, similar to European banks (De Jonghe and Vander Vennet 2008).…”

Regional Economic Conditions and the Variability of Rates of Return in Commercial Banking

“…The study finds that most of the risk reduction comes from in-market mergers, rather than out of market mergers. Emmons et al (2004) conclude that, for community banks, most of the potential diversification of risk could be achieved through increasing scale, rather than geographic diversification. The implication appears to be that exposure to local economic conditions is not a source of exposure to non-systematic (diversifiable) risk for community banks.…”

“…Yeager (2004), for example, finds that performance of community banks in counties experiencing large economic shocks reflected in county unemployment rates was not much different from that of similar banks, but located in other counties. Using a different methodology, Emmons, Gilbert, and Yeager (2004) find that rates of return at community banks in the same region were not highly correlated in the late 1980s and early 1990s. Their results indicate that most of the potential reduction of diversifiable risk could be achieved though local market mergers rather than out-of-market mergers.…”

“…Using a much different framework, Emmons et al (2004) also argue regional or local market risk is not a major source of risk for community banks. Their study does not rely on measures of regional economic conditions such as unemployment.…”