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How to Evaluate Bank Stocks: Deposits, Asset Quality, Capital

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How to Evaluate Bank Stocks: Deposits, Asset Quality, Capital

This guide walks you through the three key pillars of bank stock analysis — deposits, asset quality, and capital ratios — so you can judge a bank’s financial health and compare it with peers. You’ll learn what each metric means, where to find the numbers, and how to interpret them. No prior finance background is required, just the bank’s latest annual or quarterly report (10-K or 10-Q) and a basic calculator.

What You’ll Need

  • The bank’s latest annual report (10-K) or quarterly report (10-Q) — available on the bank’s investor relations page or the SEC’s EDGAR database.
  • A basic calculator or spreadsheet for simple ratios.
  • Optional: a list of peer banks for comparison (e.g., other regional banks of similar size).

Step-by-Step

  1. Start with deposits: the bank’s funding foundation. Look at the balance sheet for “total deposits.� Deposits are the cheapest and most stable source of funding for a bank. Check that deposits are growing year-over-year, and note the mix: non-interest-bearing checking accounts are cheaper than interest-bearing CDs. A higher percentage of non-interest deposits (often called “core deposits�) is generally positive because they reduce funding costs.
  2. Calculate the loan-to-deposit ratio. Divide total loans by total deposits. A ratio around 80–90% is typical; above 100% means the bank is funding loans with borrowed money, which can be riskier. A very low ratio (under 60%) might indicate the bank isn’t using its deposits efficiently, but it also signals strong liquidity.
  3. Examine asset quality through non-performing assets (NPAs). In the loan portfolio section, find “non-performing loans� or “non-accrual loans.� Add any repossessed properties (OREO) to get total NPAs. Divide by total loans to get the NPA ratio. A ratio below 2% is generally healthy; above 5% suggests potential trouble.
  4. Check the allowance for loan losses. The bank sets aside a reserve for loans that may default. Divide the allowance by total loans to get the coverage ratio. Compare this with the NPA ratio: if the allowance is less than the NPAs, the bank might be under-reserved. Also look at the loan loss provision (the amount added each quarter) — a sudden spike can signal deteriorating asset quality.
  5. Review capital ratios. The most important are the Common Equity Tier 1 (CET1) ratio, Tier 1 capital ratio, and Total Capital ratio. These are usually reported in the “Capital Adequacy� section. Regulators require minimums: CET1 ≥ 4.5%, Tier 1 ≥ 6%, Total ≥ 8%. Most healthy banks maintain ratios well above these — for example, a CET1 of 10% or higher is considered strong.
  6. Calculate the equity-to-assets ratio. Divide total shareholders’ equity by total assets. This is a simpler leverage measure. A ratio of 8–10% is common for banks; anything below 5% is risky.
  7. Compare with peers and over time. A bank’s numbers only mean something in context. Compare the ratios you’ve calculated with those of 2–3 similar banks and with the same bank’s figures from 2–3 years ago. Look for trends: improving asset quality (falling NPAs), stable or growing deposits, and capital ratios that are stable or rising.

Common Mistakes

  • Ignoring off-balance-sheet items. Some loans (like letters of credit) are not on the balance sheet but still carry risk. Check the footnotes for off-balance-sheet commitments.
  • Using the wrong loan figure. Always use gross loans (before subtracting the allowance) when calculating ratios like NPA ratio, unless the report specifies net loans.
  • Confusing provision with allowance. The provision is the annual expense; the allowance is the cumulative reserve. Don’t mix them up.
  • Comparing capital ratios across countries. Capital rules differ by jurisdiction (e.g., US vs. European). Stick to same-country comparisons.
  • Overlooking seasonality. Deposits may spike at year-end due to tax payments or bonuses. Use quarterly averages if available.

Tips

  • Use the FDIC’s quarterly banking profile (for US banks) to get industry averages for deposits, NPAs, and capital ratios — free and easy to compare.
  • Read the management discussion & analysis (MD&A) section of the 10-K; it often explains why ratios changed.
  • Look at the “troubled debt restructurings� (TDRs) — these are loans modified for struggling borrowers. They can hide future losses.
  • Check the maturity of deposits: a bank with a large share of short-term CDs may face higher funding costs if interest rates rise.
  • For a quick health score, combine the three pillars: strong deposits (growth, low cost), clean asset quality (low NPAs, adequate reserves), and solid capital (CET1 above 10%).

Troubleshooting

  • If you can’t find the NPA figure: Search the report for “non-accrual,� “past due,� or “impaired loans.� If not disclosed, use loans 90+ days past due as a proxy.
  • If capital ratios seem missing: They may be in a separate regulatory filing (e.g., FFIEC 041 for US banks) or in the “Supplementary Information� section of the 10-K.
  • If the bank has a lot of off-balance-sheet loans: Adjust the loan-to-deposit ratio by adding these to total loans for a more conservative view.
  • If you’re comparing banks with different fiscal years: Use the same quarter for each bank (e.g., Q3 2025) to avoid seasonality effects.
  • If the bank is a holding company: Use the consolidated financials for the holding company, but also check the bank subsidiary’s ratios — the holding company may have debt that the bank doesn’t.

Frequently Asked Questions

  1. What is a good loan-to-deposit ratio? Generally, 80–90% is considered healthy. Above 100% means the bank relies on wholesale funding, which is more volatile and expensive.
  2. How do I find the CET1 ratio? It’s in the capital adequacy section of the bank’s regulatory filings. For US banks, it’s also available on the FFIEC Central Data Repository.
  3. What does a rising NPA ratio mean? It indicates that more loans are going bad, which can lead to higher provisions and lower profits. A rising trend is a red flag.
  4. Should I avoid banks with low capital ratios? Not necessarily, but low capital increases the risk of failure during economic stress. Always compare with regulatory minimums and peer averages.
  5. Can I use these metrics for non-US banks? Yes, but be aware of different accounting standards (IFRS vs. GAAP) and local regulatory definitions. The basic concepts are the same.
  6. How often should I re-evaluate? At least quarterly, when new reports come out. Significant changes in any of the three pillars warrant a fresh look.

Related

Method: the standard formula for this calculation, rounded as each result states. See how the calculators work or report an error.