LOAN PORTFOLIO AND FINANCIAL PERFORMANCE OF COMMERCIAL BANKS

Abstract

The purpose of this study was to examine the influence of loan portfolio composition on the financial performance of commercial banks in Kenya, with banks classified according to the Central Bank of Kenya’s Tier system. The study considered a census of all fully operational commercial banks over a ten-year period (2006–2015). Secondary data were obtained from audited financial statements and other relevant financial records. Generalized least squares (GLS) regression was employed to assess the effect of personal loans, real estate loans, SME loans, and insider loans on key performance indicators: Return on Assets (ROA), Return on Equity (ROE), and Current Ratio (CR). The results indicated that personal loans had a positive effect on ROA (β = 9.555, p = 0.409) but negative effects on ROE (β = –106.526, p = 0.324) and CR (β = –64.572, p = 0.485). Real estate loans negatively influenced ROA (β = –20.441, p = 0.073), ROE (β = –59.514, p = 0.578), and CR (β = –49.143, p = 0.592). SME loans showed marginal effects on ROA (β = 4.437, p = 0.707), ROE (β = –44.682, p = 0.683), and CR (β = –16.848, p = 0.857). Insider loans negatively affected ROA (β = –16.875, p = 0.165), ROE (β = –108.959, p = 0.334), and CR (β = –101.176, p = 0.295). These findings suggest that while some loan categories contribute to asset profitability, high-risk loans, particularly insider and unsecured loans, can adversely affect equity returns and liquidity. The study concludes that effective monitoring, diversification, and risk management of loan portfolios are critical for enhancing financial performance, ensuring liquidity, and mitigating credit risk. The results carry implications for bank policy, management practice, and theoretical understanding of portfolio risk in emerging economies.