Does diversification improve the performance of German banks? Evidence from individual bank loan portfolios
AbstractShould banks be diversified or focused? Does diversification indeed lead to enhanced performance and, therefore, greater safety for banks, as traditional portfolio and banking theory would suggest? This paper investigates the link between banks? profitability (ROA) and their portfolio diversification across different industries, broader economic sectors and geographical regions measured by the Herfindahl Index. To explore this issue, we use a unique data set of the individual bank loan portfolios of 983 German banks for the period from 1996 to 2002. The overall evidence we provide shows that there are no large performance benefits associated with diversification since each type of diversification tends to reduce the banks? returns. Moreover, we find that the impact of diversification depends strongly on the risk level. However, it is only for moderate risk levels and in the case of industrial diversification that diversification significantly improves the banks? returns. --
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Bibliographic InfoPaper provided by Deutsche Bundesbank, Research Centre in its series Discussion Paper Series 2: Banking and Financial Studies with number 2006,05.
Date of creation: 2006
Date of revision:
focus; diversification; monitoring; bank returns; bank risk;
Find related papers by JEL classification:
- G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
- G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
- G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
This paper has been announced in the following NEP Reports:
- NEP-ALL-2006-08-19 (All new papers)
- NEP-BAN-2006-08-19 (Banking)
- NEP-BEC-2006-08-19 (Business Economics)
- NEP-EFF-2006-08-19 (Efficiency & Productivity)
- NEP-FMK-2006-08-19 (Financial Markets)
- NEP-RMG-2006-08-19 (Risk Management)
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