This file is part of IDEAS, which uses RePEc data


[ Papers | Articles | Software | Books | Chapters | Authors | Institutions | JEL Classification | NEP reports | Search | New papers by email | Author registration | Rankings | Volunteers | FAQ | Blog | Help! ]

Don’t Put All Your Eggs in One Basket? Diversification and Specialization in Lending

Author info | Abstract | Publisher info | Download info | Related research | Statistics
Author Info
Andrew Winton
Abstract

Should lenders diversify, as suggested by the financial intermediation literature, or specialize, as suggested by the corporate finance literature? I model a financial institution's ("bank's") choice between these two strategies in a setting where bank failure is costly and loan monitoring adds value. All else equal, diversification across loan sectors helps most when loans have moderate exposure to sector downturns ("downside") and the bank's monitoring incentives are weak; when loans have low downside, diversification has little benefit, and when loans have sufficiently high downside, diversification may actually increase the bank's chance of failure. Also, it is likely that the bank's monitoring effectiveness is lower in new sectors; in this case, diversification lowers average returns on monitored loans, is less likely to improve monitoring incentives, and is more likely to increase the bank's chance of failure. Diversified banks may sometimes need more equity capital than specialized banks, and increased competition can make diversification either more or less attractive. These results motivate actual institutions' behavior and performance in a number of cases. Key implications for regulators are that an institution's credit risk depends on its monitoring incentives as much as on its diversification, and that diversification per se is no guarantee of reduced risk of failure.

Download Info
To download:

If you experience problems downloading a file, check if you have the proper application to view it first. Information about this may be contained in the File-Format links below. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://fic.wharton.upenn.edu/fic/papers/00/0016.pdf
File Format: application/pdf
File Function:
Download Restriction: no

Publisher Info
Paper provided by Wharton School Center for Financial Institutions, University of Pennsylvania in its series Center for Financial Institutions Working Papers with number 00-16.

Download reference. The following formats are available: HTML (with abstract), plain text (with abstract), BibTeX, RIS (EndNote, RefMan, ProCite), ReDIF
Length:
Date of creation: Sep 1999
Date of revision:
Handle: RePEc:wop:pennin:00-16

Contact details of provider:
Postal: 3301 Steinberg Hall-Dietrich Hall, 3620 Locust Walk, Philadelphia, PA 19104.6367
Phone: 215.898.1279
Fax: 215.573.8757
Email:
Web page: http://fic.wharton.upenn.edu/fic/
More information through EDIRC

For technical questions regarding this item, or to correct its listing, contact: (Thomas Krichel).

Related research
Keywords:

Other versions of this item:

Find related papers by JEL classification:
G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages
L20 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - General

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

  1. Hellwig, Martin, 1998. "Allowing for Risk Choices in Diamond's "Financial Intermediation as Delegated Monitoring"," Sonderforschungsbereich 504 Publications 98-04, Sonderforschungsbereich 504, Universität Mannheim & Sonderforschungsbereich 504, University of Mannheim.
  2. Shaffer, Sherrill, 1998. "The Winner's Curse in Banking," Journal of Financial Intermediation, Elsevier, vol. 7(4), pages 359-392, October. [Downloadable!] (restricted)
    Other versions:
  3. Jensen, Michael C, 1986. "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers," American Economic Review, American Economic Association, vol. 76(2), pages 323-29, May. [Downloadable!] (restricted)
  4. Matutes, Carmen & Vives, Xavier, 1996. "Competition for Deposits, Fragility, and Insurance," Journal of Financial Intermediation, Elsevier, vol. 5(2), pages 184-216, April. [Downloadable!] (restricted)
  5. Cerasi, Vittoria & Daltung, Sonja, 2000. "The optimal size of a bank: Costs and benefits of diversification," European Economic Review, Elsevier, vol. 44(9), pages 1701-1726, October. [Downloadable!] (restricted)
    Other versions:
  6. Mark Carey, 1998. "Credit Risk in Private Debt Portfolios," Journal of Finance, American Finance Association, vol. 53(4), pages 1363-1387, 08. [Downloadable!] (restricted)
  7. Winton Andrew, 1995. "Delegated Monitoring and Bank Structure in a Finite Economy," Journal of Financial Intermediation, Elsevier, vol. 4(2), pages 158-187, April. [Downloadable!] (restricted)
  8. Boot, Arnoud W A & Schmeits, Anjolein, 1998. "Market Discipline and Incentive Problems in Conglomerate Banks," CEPR Discussion Papers 1949, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  9. Jalal D. Akhavein & Allen N. Berger & David B. Humphrey, 1996. "The Effects of Megamergers on Efficiency and Prices: Evidence from a Bank Profit Function," Center for Financial Institutions Working Papers 96-03, Wharton School Center for Financial Institutions, University of Pennsylvania.
    Other versions:
  10. Boyd, John H. & Runkle, David E., 1993. "Size and performance of banking firms : Testing the predictions of theory," Journal of Monetary Economics, Elsevier, vol. 31(1), pages 47-67, February. [Downloadable!] (restricted)
  11. John H. Boyd & Stanley L. Graham, 1991. "Investigating the banking consolidation trend," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Spr, pages 3-15. [Downloadable!]
  12. Gehrig, Thomas, 1998. "Screening, cross-border banking, and the allocation of credit," Research in Economics, Elsevier, vol. 52(4), pages 387-407, December. [Downloadable!] (restricted)
    Other versions:
  13. Berger, Philip G & Ofek, Eli, 1996. " Bustup Takeovers of Value-Destroying Diversified Firms," Journal of Finance, American Finance Association, vol. 51(4), pages 1175-1200, September. [Downloadable!] (restricted)
  14. Winton, Andrew, 1997. "Competition among Financial Intermediaries When Diversification Matters," Journal of Financial Intermediation, Elsevier, vol. 6(4), pages 307-346, October. [Downloadable!] (restricted)
  15. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Blackwell Publishing, vol. 51(3), pages 393-414, July. [Downloadable!] (restricted)
  16. Yanelle, Marie-Odile, 1989. "The strategic analysis of intermediation," European Economic Review, Elsevier, vol. 33(2-3), pages 294-301, March. [Downloadable!] (restricted)
  17. Giovanni Dell'Ariccia & Ezra Friedman & Robert Marquez, 1999. "Adverse Selection as a Barrier to Entry in the Banking Industry," RAND Journal of Economics, The RAND Corporation, vol. 30(3), pages 515-534, Autumn. [Downloadable!] (restricted)
  18. Sherrill Shaffer, 1989. "Pooling intensifies joint failure risk," Working Papers 89-1, Federal Reserve Bank of Philadelphia.
  19. Dell'Ariccia, Giovanni, 2001. "Asymmetric information and the structure of the banking industry," European Economic Review, Elsevier, vol. 45(10), pages 1957-1980, December. [Downloadable!] (restricted)
  20. Arnoud W.A. Boot & Anjan V. Thakor, 1998. "Can Relationship Banking survive Competition?," Tinbergen Institute Discussion Papers 98-038/2, Tinbergen Institute.
    Other versions:
  21. Servaes, Henri, 1996. " The Value of Diversification during the Conglomerate Merger Wave," Journal of Finance, American Finance Association, vol. 51(4), pages 1201-25, September. [Downloadable!] (restricted)
  22. Rajan, Raghuram & Winton, Andrew, 1995. " Covenants and Collateral as Incentives to Monitor," Journal of Finance, American Finance Association, vol. 50(4), pages 1113-46, September. [Downloadable!] (restricted)
  23. John H. Boyd & Edward C. Prescott, 1985. "Financial intermediary-coalitions," Staff Report 87, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  24. Demsetz, Rebecca S & Strahan, Philip E, 1997. "Diversification, Size, and Risk at Bank Holding Companies," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 29(3), pages 300-313, August.
  25. Thakor, Anjan V., 2000. "Relationship Banking," Journal of Financial Intermediation, Elsevier, vol. 9(1), pages 3-5, January. [Downloadable!] (restricted)
  26. Besanko, David & Kanatas, George, 1996. "The Regulation of Bank Capital: Do Capital Standards Promote Bank Safety?," Journal of Financial Intermediation, Elsevier, vol. 5(2), pages 160-183, April. [Downloadable!] (restricted)
  27. Ramakrishnan, Ram T S & Thakor, Anjan V, 1984. "Information Reliability and a Theory of Financial Intermediation," Review of Economic Studies, Blackwell Publishing, vol. 51(3), pages 415-32, July. [Downloadable!] (restricted)
  28. Rothschild, Michael & Stiglitz, Joseph E., 1970. "Increasing risk: I. A definition," Journal of Economic Theory, Elsevier, vol. 2(3), pages 225-243, September. [Downloadable!] (restricted)
  29. Yair E. Orgler & Robert A. Taggart, Jr., 1983. "Implications of Corporate Capital Structure Theory for Banking Institutions," NBER Working Papers 0737, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  30. Denis, David J & Denis, Diane K & Sarin, Atulya, 1997. " Agency Problems, Equity Ownership, and Corporate Diversification," Journal of Finance, American Finance Association, vol. 52(1), pages 135-60, March. [Downloadable!] (restricted)
  31. Orgler, Yair E & Taggart, Robert A, Jr, 1983. "Implications of Corporate Capital Structure Theory for Banking Institutions: A Note," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 15(2), pages 212-21, May. [Downloadable!] (restricted)
  32. Myers, Stewart C., 1977. "Determinants of corporate borrowing," Journal of Financial Economics, Elsevier, vol. 5(2), pages 147-175, November. [Downloadable!] (restricted)
Full references

Statistics
Access and download statistics

Did you know? All the bibliographic data shown here has been contributed by volunteers, thereby helping to keep this service free.

This page was last updated on 2009-12-6.

This information is provided to you by IDEAS at the Department of Economics, College of Liberal Arts and Sciences, University of Connecticut using RePEc data on a server sponsored by the Society for Economic Dynamics.