Should Banks Be Diversified? Evidence from Individual Bank Loan Portfolios

Viral V. Acharya (), Iftekhar Hasan and Anthony Saunders
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Anthony Saunders: New York University

Journal of Business, 2006, vol. 79, issue 3, pages 1355-1412

Abstract: We study the effect of loan portfolio focus versus diversification on the return and the risk of 105 Italian banks over the period 1993–99 using data on bank-by-bank exposures to different industries and sectors. We find that diversification is not guaranteed to produce superior performance and/or greater safety for banks. For high-risk banks, diversification reduces bank return while producing riskier loans. For low-risk banks, diversification produces either an inefficient risk-return trade-off or only a marginal improvement. Our results are consistent with a deterioration in the effectiveness of bank monitoring at high risk-levels and upon lending expansion into newer or competitive industries.

Date: 2006
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Working Paper: Should banks be diversified? Evidence from individual bank loan portfolios (2002)
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