INFLUENCE OF INSIDER LOANS AND FINANCIAL PERFORMANCE OF COMMERCIAL BANKS

Abstract

The study examined the influence of insider loans on the financial performance of commercial banks in Kenya, with banks classified according to the Central Bank of Kenya (CBK) Tier system. Using a ten-year panel of fully operational commercial banks from 2006 to 2015, the study relied entirely on secondary data sourced from audited financial statements and other official records. Financial performance was measured using Return on Assets (ROA), Return on Equity (ROE), and Current Ratio (CR), while insider loans were operationalized as loans and advances extended to executives, board members, and major shareholders. Generalized Least Squares (GLS) regression with a random effects model was applied to determine the relationship between insider lending and financial performance. The results indicated that insider loans had a significant negative influence on ROE and CR, with coefficients of -97.84 and -89.53 respectively (p < 0.01), implying that increased insider lending reduced profitability and liquidity. Conversely, insider loans had a positive but statistically insignificant effect on ROA (coefficient = 0.0244, p = 0.489). These findings suggest that while insider loans may not immediately affect asset returns, they compromise overall bank profitability and liquidity, highlighting the need for stringent governance and risk management policies in the approval and monitoring of insider lending. The study provides evidence for regulators and bank managers to implement effective controls on insider loans to safeguard financial stability and enhance performance.