As a small-cap finance stock with a market capitalisation of US$75m, the risk and profitability of Wellesley Bancorp Inc ( NASDAQ:WEBK ) are largely tied to the underlying economic growth of the region it operates in US. Given that banks operate by reinvesting deposits in the form of loans, negative economic growth may lower the level of saving deposits and demand for loans, directly affecting those banks’ levels of cash flows. Following the Financial Crisis in 2008, a set of reforms termed Basel III was enforced to bolster risk management, regulation, and supervision in the financial services industry. These reforms target banking regulations and intends to enhance financial institutions’ ability to absorb shocks resulting from economic stress which could expose banks like Wellesley Bancorp to vulnerabilities. Unpredictable macro events such as political instability could weaken its financial position which is why it is important to understand how well the bank manages its risk levels. Sufficient liquidity and low levels of leverage could place the bank in a safe place in case of unexpected macro headwinds. Today we will be measuring Wellesley Bancorp’s financial risk position by looking at three leverage and liquidity metrics.
Why Does WEBK’s Leverage Matter?
Banks with low leverage are exposed to lower risks around their ability to repay debt. A bank’s leverage can be thought of as the amount of assets it holds compared to its own shareholders’ funds. Though banks are required to have a certain level of buffer to meet its capital requirements, Wellesley Bancorp’s leverage level of 13.28x is significantly below the appropriate ceiling of 20x. This means the bank has a sensibly high level of equity compared to the level of debt it has taken on to maintain operations which places it in a strong position to pay back its debt in unforeseen circumstances. If the bank needs to increase its debt levels to firm up its capital cushion, there is plenty of headroom to do so without deteriorating its financial position.
How Should We Measure WEBK’s Liquidity?
As abovementioned, loans are quite illiquid so it is important to understand how much of these loans make up Wellesley Bancorp’s total assets. Normally, they should not exceed 70% of total assets, but its current level of 86% means the bank has obviously lent out 16.04% above the sensible upper limit. This level implies dependency on this particular asset class as a source of revenue which makes the bank more likely to be exposed to default compared to its competitors with less loans.
What is WEBK’s Liquidity Discrepancy?
Banks operate by lending out its customers’ deposits as loans and charge a higher interest rate. These loans may be fixed term and often cannot be readily realized, yet customer deposits on the liability side must be paid on-demand and in short notice. The disparity between the immediacy of deposits compared to the illiquid nature of loans puts pressure on the bank’s financial position if an adverse event requires the bank to repay its depositors. Compared to the appropriate industry loan to deposit level of 90%, Wellesley Bancorp’s ratio of over 107% is higher, which positions the bank in a risky spot given the adverse liquidity disparity between loan and deposit levels. Basically, for $1 of deposits with the bank, it lends out over $1 which is imprudent.
We’ve only touched on operational risks for WEBK in this article. But as a stock investment, there are other fundamentals you need to understand. There are three essential factors you should look at:
- Future Outlook : What are well-informed industry analysts predicting for WEBK’s future growth? Take a look at our free research report of analyst consensus for WEBK’s outlook.
- Valuation : What is WEBK worth today? Has the future growth potential already been factored into the price? The intrinsic value infographic in our free research report helps visualize whether WEBK is currently mispriced by the market.
- Other High-Performing Stocks : Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here .
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org .