Diversification and the banks’ risk-return-characteristics – evidence from loan portfolios of German banks

Andreas Behr, Andreas Kamp, Christoph Memmel () and Andreas Pfingsten

No 2007,05, Discussion Paper Series 2: Banking and Financial Studies from Deutsche Bundesbank, Research Centre

Abstract: Banks face a tradeoff between diversifying and focusing their loan portfolio. In this paper we carry out an empirical study for the German market to shed light on the question whether or not the benefits of risk sharing outweigh those of specialization. We use data from the Bundesbank’s quarterly borrowers statistic to determine the degree of diversification in the banks’ loan portfolios and combine this data with the banks’ balance sheets and audit reports. The unique database comprises data from all German banks during the period from 1993 to 2003. Our main results can be summarized in three statements: i) Specialized banks have a slightly higher return than diversified banks. ii) Specialized banks have lower relative loan loss provisions and lower shares of non-performing loans, iii) However, the standard deviations of the loan loss provision ratio and the non-performing loan ratio are lower for diversified banks.

Keywords: bank lending; loan portfolio; portfolio theory; diversification; riskreturn analysis (search for similar items in EconPapers)
JEL-codes: C23 C43 G11 G21 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-acc, nep-ban, nep-eec, nep-eff and nep-rmg
Date: Written 2007

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