U.S. and International Banking – How Many More Shoes Will Drop?
The last couple of weeks have been quite a rollercoaster of investor emotion over the turmoil revealed in the banking industry. I think we’ve all reeled a little.
- On Wednesday, March 8, 2023, California-based Silvergate Bank (Silvergate) announced it would be winding down its operations and liquidating itself voluntarily. Silvergate was heavily involved in crypto currencies, which have experienced market volatility since the collapse of Samuel Banks-Friedman’s crypto currency exchange, FTX Trading, Ltd.
- On the same day, Silicon Valley Bank (SVB), also based in California and then the 16th largest U.S. bank, catering largely to venture capitalists and technology start-ups, sold off ~$21 billion in U.S. bonds and mortgage-backed securities, liquidated to in order to cover depositors’ demands for their funds. SVB recognized a $1.8 billion loss, on the sale. On Thursday, March 9, 2023, SVB announced plans to sell $2.25 billion of its own stock to provide the bank with additional liquidity. However, the announcement spooked investors, and SVB’s stock price dropped some 60% over the day as depositors continued withdrawing their funds. SVB’s plans for the stock sale fell through. The following day, Friday, March 10, 2023, trading was halted and the FDIC placed the bank under its receivership, freezing all depositors’ accounts.
- On Sunday, March 12, 2023, New York-based Signature Bank (Signature), crypto currency-heavy as Silvergate had been, was seized by the New York office of the FDIC, partly due to depositors’ withdrawals and significant stock sell-offs by investors, and partly, FDIC spokespeople claim, due to problems with the information Signature was providing to them.
- On Monday, March 13, 2023, U.S. Secretary of the Treasury Janet Yellen affirmed that all depositors of SVB and Signature Bank will be made whole, not only those with account balances of $250,000 and under (the limit for FDIC insurance). In addition, on the evening of Sunday, March 12, the Federal Reserve had announced a new Bank Term Funding Program (BTFP), providing loans of up to one year’s duration to eligible depository institutions, who will need to pledge sufficient qualifying assets (e.g., U.S. bonds, mortgage-backed securities, etc.) as collateral. For purposes of collateral for these BTFP loans, such assets will be valued at par. Secretary Yellen has approved up to $25 billion from the Department of the Treasury’s Exchange Stabilization Fund as backstop for BTFP loans, though the Federal Reserve says it does not anticipate the need to draw down these Treasury funds.
- On Thursday, March 16, 2023, the Swiss National Bank announced that 167-year-old Credit Suisse, having experienced significant losses over several years, would receive an infusion of $54 billion in credit. However, even this proved insufficient, and on Sunday, March 19, 2023, the announcement came that rival UBS Group, AG (USB), would acquire Credit Suisse for some $3.2 billion in stock, assuming losses of up to $5 billion in francs (roughly $5.4 billion in U.S. dollars). As part of the deal brokered with USB, the Swiss National Bank’s regulators have written off some $17 billion in Credit Suisse bonds – leaving investors in those bonds in the cold. This move has generated unease among some investors.
- The same Thursday, embattled California-based First Republic Bank, which had seen great volatility in its share price, received a promise of $30 billion from a combined 11 U.S. banks, including JPMorgan Chase, Goldman Sachs, Morgan Stanley, Bank of America, and others. This, again, proved insufficient to allay investors concerns, and on Monday, March 20, 2023, trade of First Republic shares was halted no less than 11 times. Reportedly, First Republic is looking for buyers for its operations.
- On Saturday, March 18, 2023, it was reported that the Mid-Size Bank Coalition of America (MBCA), which represents a group of at least 100 banks, sent a letter to the FDIC, the Federal Reserve, U.S. Secretary of the Treasury Janet Yellen, and Acting Comptroller of the Currency Michael Hsu, requesting the lifting for two years of all account limits to FDIC insurance. The MBCA proposed that the banks themselves be responsible for the additional insurance costs.
- On Sunday. March 19, 2023, a joint announcement was made by the U.S. Federal Reserve, the European Central Bank, the Bank of England, the Swiss National Bank, the Bank of Canada, and the Bank of Japan, indicating that they were increasing the frequency of U.S. dollar swaps – from once weekly to daily, which they believe will boost liquidity for the global banking system. This move is not unprecedented in times of instability for the industry.
- On Wednesday, March 22, 2023, the Federal Reserve announced a quarter-point increase in the Fed funds rates – the ninth increase in a row, marking a 4.75% increase over the past 12 months. This was a widely expected move, and down from the pre-banking crisis predictions of a half-point increase.
- On Friday, March 24, 2023, Deutsche Bank shares experienced a sell-off amid concerns over an increase in the price of the bank’s credit default swaps.
- On Sunday, March 26, 2023, North Carolina-based First Citizens BancShares announced that it would acquire the former SVB (renamed Silicon Valley Bridge Bank following the bank’s seizure by the FDIC), including the purchase of some ~$72 billion in loans (at a discount of ~$16.5 billion) and all the bank’s deposits, which total ~$56 billion. This will leave ~$90 billion in SVB securities and other assets within the control of the FDIC. The announcement has resulted in a mild uptick in the trading price of bank stocks.
Secretary Yellen has said that accounts of over $250,000 will only be covered if regulators find that is “necessary to protect the financial system,” which likely means the MBCA’s proposal will fall on deaf ears.
While we in the U.S. have played canary-in-the-coal-mine, the takeover of Credit Suisse by UBS (not to mention the shoring up of the former by the Swiss National Bank), and the proactive measures being jointly taken by central banks in key major countries, illustrate that the baking industry and its current precariousness are a matters of global concern.
- Obviously, concerted efforts by many governments to curb rampant inflation on a global scale – i.e., hiking prime interest rates (in the U.S., via the most rapid series of increases in over 40 years) – has had repercussions on the monetary supply. They are designed to do just that. They also, however, wreak havoc on bank portfolios heavy with long-term debt instruments, whose value decreases as interest rates rise. Many banks hold such long-term debt instruments, as they are safer than many other investment options if held to maturity. However, such investments must be carefully managed to balance risk in light of interest rate increases and liquidity needs.
- Banks have enjoyed loans at near-zero interest rates for well over a decade – and were slow to respond to the rapid rate of increases.
- The COVID pandemic produced huge dollar amounts in government spending and loose lending, resulting in additional “free” money for many businesses. It also produced a boom in technology, including crypto currency and start-ups, which began to contract with the rise in interest rates. This disproportionately impacted banks whose depositors were, in turn, disproportionately tied to technology, which included Silvergate, SVB, and Signature. Banks needed more cash as technology start-up and crypto currency activity slowed, and particularly as many of these start-ups and other technology-oriented businesses, as well as venture capitalists, rapidly withdrew funds from their accounts prior to Friday, March 10, 2023.
- Regulators’ inaction also contributed. SVB’s risk-management policies had been noted as problematic by the Federal Reserve as far back as 2019; warnings were issued then and subsequently, but the problems were apparently not addressed, as regulators are supposed to ensure is done. It’s worth noting that, despite these warnings, the interest rate hikes, and an economy in flux, SVB was without a chief risk officer from April of 2022 until January of 2023.
- And in the digital age, it’s also easy to start a panic – which is exactly what happened. Fears over SVB going under went viral, starting a digital run on the bank – and on other banks as well.
- Further, there is a question as to whether the banks’ external auditors were exercising proper diligence. SVB, Signature, and First Republic all passed their audits for 2022, performed by KPMG. The accounting firm is likely to face questions concerning these passing grades on banks which had been exhibiting enough issues to receive warnings from federal regulators.
We want to say we are cautiously optimistic. This is not a repeat of the 2008 crisis, which was fueled by banks’ loose lending practices, heavily tied to real estate loans for which insufficient collateral was demanded and proper credit checks were not performed. This loose lending led to inflated real estate values, leading in turn to the banking crisis when the real estate bubble burst, as all bubbles eventually do.
The current problems in the banking industry are very different, being due principally to banks’ failure to manage their investment portfolios for risk, when they should have been carefully monitoring the maturity of their investments in view of depositors’ needs.
However, we are not at all confident that we’ve seen the last of seismic banking events – though where, at the end of the day, these tremors will show up on the historic banking Richter scale, we will not attempt to predict.
If you have concerns about the banking industry and what the current climate could mean for your financial future, please click here to email me directly – I am here to help you.
Until next time –