The average net interest margin (NIM) for U.S. banks was 3% as of Q1 2023. That figure shows a slight rebound in the past three years, with a low of 2.29% in Q2 2021. But the long-term trend has been downwards since Q1 1994 when the figure was 4.91%.
Key Takeaways
- Net interest margin (NIM) reveals the amount of money that a bank is earning in interest on loans compared to the amount it is paying in interest on deposits.
- NIM is one indicator of a bank's profitability and growth.
- The average NIM for U.S. banks was 3% as of Q1 2023.
- The long-term trend has been downward since Q1 1994 when the average was 4.91%.
Net Interest Margin
In finance, net interest margin is a measure of the difference between interest paid and interest received, adjusted for the total amount of interest-generating assets held by the bank. When a financial institution actively pursues this rate difference, it is known as maturity transformation.
In short, net interest margin is one indicator of a bank's profitability and growth. It reveals how much the bank is earning in interest on its loans compared to how much it is paying out in interest on deposits.
For example, say a bank made loans equal to $100 million in a year, which generated $5.5 million in interest income. In the same year, the bank paid $2.5 million in interest to its depositors.
Capital One, American Express National Bank, and Discover Bank have some of the highest net interest margins.
The bank's net interest margin can be calculated using the following formula: net interest margin = ($5.5 million - $2.5 million) / $100 million = 0.03, or 3%.
Net interest margin is not the same as net interest income. Net interest income is the numerator in the equation for net interest margin, but the denominator is the bank's total assets, and that can change in proportions that are not reflected in the numerator.
Net interest margin is not the same as profitability, either. Most banks also earn significant income from fees and service charges of various kinds, and those are not reflected in net interest margin.
Typical and Relative Net Interest Margin
A number of factors affect a bank's net interest margin. For example, supply and demand for loans help establish market interest rates. Monetary policy and banking regulations set by the Federal Reserve can increase or decrease the demand for deposit accounts and the demand for loans.
If the demand for savings increases relative to the demand for loans, it is likely that the net interest margin will decrease. The opposite is true if the demand for loans is higher relative to savings.
Net interest margin varies among banks depending on their business models. For example, as of Q1 2023, Wells Fargo had a net interest margin of 3.22%, JPMorgan, 2.70%, and Bank of America, 2.58%.
This doesn't mean that Wells Fargo is more profitable or more efficient than Bank of America or JPMorgan. Each company focuses on different financial instruments to earn income and there are many other factors to profitability to consider.
Is a Higher or Lower NIM Better?
A higher net interest margin (NIM) is better. It indicates a bank is bringing in more money on the interest it earns on loans than it is paying out in interest on bank deposits.
How Do You Increase Net Interest Margin?
For a bank to increase its net interest margin, it needs to make more loans to consumers, particularly more loans than the deposits it is taking in from customers. In essence, a bank's net interest margin will improve when customers borrow more than they save.
What Happens to a Bank's Net Interest Margin When Interest Rates Rise?
When interest rates rise, a bank's net interest margin can improve because it is bringing in more money due to the higher interest rate environment; however, generally, net interest margin will decrease because a rise in interest rates is a form of monetary tightening that makes borrowing more expensive, so the demand for loans will decrease, decreasing a bank's net interest margin.
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The Bottom Line
When evaluating banks, net interest margin is one indicator of profitability. The higher the net interest margin, the more profitable a bank may be, as the money it brings in on loan interest charges is more than the money it pays out in interest on bank deposits.
