Texas Ratio (Banking)

The Texas Ratio was developed by bank analyst Gerard Cassidy at RBC Capital Markets during the savings and loan crisis of the 1980s, when Texas banks were failing at an alarming rate. Cassidy observed that banks with non-performing assets approaching or exceeding their capacity to absorb losses — measured by tangible equity plus loan loss reserves — were at high risk of failure. The ratio bearing the state's name has since become a widely used early-warning indicator for bank credit distress.

Formula: Texas Ratio = Non-Performing Assets / (Tangible Common Equity + Loan Loss Reserves)

The numerator, non-performing assets (NPA), includes loans 90+ days past due, loans in nonaccrual status (where the bank has stopped recognizing interest income due to credit concerns), and other real estate owned (OREO) — properties the bank has foreclosed and now holds on its balance sheet. The denominator represents the financial cushion available to absorb losses: tangible common equity (hard equity excluding goodwill) plus the existing allowance for loan and lease losses (ALLL) or allowance for credit losses (ACL) under current expected credit loss (CECL) accounting.

A Texas Ratio below 20% is generally considered healthy. Ratios between 20-50% warrant attention and suggest elevated credit risk. Ratios above 50% indicate significant stress, and ratios approaching or exceeding 100% historically have preceded bank failures with high frequency. Research by Gerard Cassidy and others found that virtually every U.S. bank that failed in the savings and loan crisis had a Texas Ratio above 100% prior to failure.

During the 2008-2009 financial crisis, many community and regional banks with concentrated exposure to residential construction loans, commercial real estate, and subprime mortgages saw their Texas Ratios surge well above 100% as non-performing assets exploded. The ratio proved a reliable predictor of the hundreds of bank failures that occurred between 2008 and 2012.

For investors, the Texas Ratio is most useful for monitoring smaller banks and regional banks where credit concentrations can make losses more severe. For large diversified banks like JPMorgan Chase (JPM) and Bank of America (BAC), the Texas Ratio is less commonly the primary risk metric due to their diversification, but it remains relevant for community bank monitoring. The FDIC publishes detailed data on bank financial condition quarterly in its Call Reports, allowing analysts to calculate Texas Ratios across the entire U.S. banking system.