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As a small-cap bank stock with a market capitalisation of US$145m, Hawthorn Bancshares, Inc.’s (NASDAQ:HWBK) risk and profitability are largely determined by the underlying economic growth of the US regions in which it operates. 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. After the GFC, a set of reforms called Basel III was imposed in order to strengthen regulation, supervision and risk management in the banking sector. These reforms target bank level regulation and aims to improve the banking sector’s ability to absorb shocks arising from economic stress which could expose financial institutions to vulnerabilities. Its financial position may weaken in an adverse macro event such as political instability which is why it is crucial to understand how well the bank manages its risks. 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 Hawthorn Bancshares’s financial risk position by looking at three leverage and liquidity metrics.
Is HWBK's Leverage Level Appropriate?
A low level of leverage subjects a bank to less risk and enhances its ability to pay back its debtors. Leverage can be thought of as the amount of assets a bank owns relative to its shareholders’ funds. While financial companies will always have some leverage for a sufficient capital buffer, Hawthorn Bancshares’s leverage ratio of 14.9x is very safe and substantially below the maximum limit 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 firm up its capital cushion, it has ample headroom to increase its debt level without deteriorating its financial position.
What Is HWBK's Level of Liquidity?
Due to its illiquid nature, loans are an important asset class we should learn more about. Generally, they should make up less than 70% of total assets, but its current level of 77% means the bank has lent out 6.6% above the sensible upper limit. This level implies dependency on this particular asset class as a source of revenue which makes the bank more exposed to default compared to banks with less loans.
What is HWBK's Liquidity Discrepancy?
A way banks make money is by lending out its deposits as loans. Loans are generally fixed term which means they cannot be readily realized, conversely, on the liability side, customer deposits must be paid in very short notice and on-demand. The discrepancy between loan assets and deposit liabilities threatens the bank’s financial position. If an adverse event occurs, it may not be well-placed to repay its depositors immediately. Compared to the appropriate industry loan to deposit level of 90%, Hawthorn Bancshares’s ratio of over 95% is higher which positions the bank in a risky spot given the potential to cross into negative liquidity disparity between loan and deposit levels. Essentially, for $1 of deposits with the bank, it lends out more than $0.9 which is risky.
Keep in mind that a stock investment requires research on more than just its operational side. There are three relevant aspects you should further research:
- Future Outlook: What are well-informed industry analysts predicting for HWBK’s future growth? Take a look at our free research report of analyst consensus for HWBK’s outlook.
- Valuation: What is HWBK 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 HWBK 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.