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Banks on the Brink: 2023 Mini-Crisis


Paxter
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On 3/20/2023 at 2:23 PM, Chataya de Fleury said:

What you and other people who like to bemoan “accounting pirates” and such do not realize is that if we did not have things like modern financial instruments, such as securitizations, it would be the 1970s all over again when buying something like a house.

In my musings, below, I’m going to give you an example based on “you” applying for a plain vanilla Agency-eligible Mortgage.

If there were no RMBS market, rather than doing a literal two-minute application for pre-approval on Rocket Mortgage, you would have to schlep loads of financial documents down to your local bank for a financial colonoscopy performed by a loan officer. This would take weeks. Just to get a pre-approval. You might even get questioned on some of your income and expenditures in excruciating detail.

Your mortgage rate would also be much higher than it is now, because that mortgage would not be sold by the bank to generate liquidity.

We just went through a mortgage pre-approval. Aside from tax returns, we provided statements of investment accounts, details of various liabilities past and present, access to credit, and there were multiple emails and phone calls back and forth with the mortgage specialist at the bank. Of course this is in Canada where we haven't had a major banking failure in a century. Our existing fixed rate is 1.9% until 2025. 

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5 hours ago, Aemon Stark said:

We just went through a mortgage pre-approval. Aside from tax returns, we provided statements of investment accounts, details of various liabilities past and present, access to credit, and there were multiple emails and phone calls back and forth with the mortgage specialist at the bank. Of course this is in Canada where we haven't had a major banking failure in a century. Our existing fixed rate is 1.9% until 2025. 

4.5% to 5% is what I'm typically seeing in the UK. Note to self: look for jobs in Canada. 

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Mismangement not possible! All of us who work in the financial industry, top-to-bottom, including the porters, are true blue straight honest regulation observing and untempted by corruption and greed. Which, you know, is why there is no need for regulations oversight or enforcement of either, and why we should be always be bailed out at taxpayer expense (when they lose their shirts by our 'mismangement) and made whole. Besides we are the smartest people in the room about money everywhere all the time.

SVB collapse caused by ‘textbook case of mismanagement,’ Fed official says
Congressional hearings this week will examine the collapse of Silicon Valley Bank and Signature Bank, as well as the government’s respon
se

https://www.washingtonpost.com/business/2023/03/28/svb-congress-hearing-fed-fdic/

Fed Vice Chair Calls Silicon Valley Bank a ‘Textbook Case of Mismanagement’
The Federal Reserve’s top bank cop blamed Silicon Valley Bank’s leaders, while previewing the cental bank’s review of its faulty oversight

https://www.nytimes.com/2023/03/27/business/economy/fed-silicon-valley-bank-mismanagement.html

Quote

 

.... “SVB’s failure is a textbook case of mismanagement,” he said, while adding that the “failure demands a thorough review of what happened, including the Federal Reserve’s oversight of the bank.”

He noted that Fed supervisors spotted a range of problems in late 2021 and throughout 2022, even rating the bank’s management as deficient, which barred it from growing by acquiring other companies. And he said that supervisors told board officials in mid-February that they were actively engaged with SVB on its interest rate risk.

“As it turned out, the full extent of the bank’s vulnerability was not apparent until the unexpected bank run on March 9,” Mr. Barr added. “In our review, we are focusing on whether the Federal Reserve’s supervision was appropriate for the rapid growth and vulnerabilities of the bank.”

Yet Mr. Barr was also likely to face questions — especially from Democrats — about whether changes to Fed regulation and supervision in recent years could have paved the way for the implosion. Congress passed a law that made midsize bank oversight less onerous in 2018, and Mr. Barr’s predecessor, Randal K. Quarles, an appointee of President Donald J. Trump, had carried out and in some cases built upon those changes in 2019. ....

 

 

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18 minutes ago, Chataya de Fleury said:

I know nothing of the Canadian financial system…but I do love Canada. It’s a great place. A bit chilly in winter, sometimes.

The two systems are becoming a bit more connected. TD (Toronto Dominion) Bank will soon be in the top 10 US banks by size (assuming the First Horizon transaction goes through). It's currently ranked 11th by assets.

BMO and RBC are both in the top 30. 

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Okay...something past responses from Chataya and other board financial gurus here got me to wondering about.

Suppose I were fool enough to become an indie day trader or something of the sort and decided to avoid all the brokers and whatnot whenever possible. (I figure that even now there must be quite a few folks doing this. Nest egg to get started isn't all that great, so, I want to get the most bang for my bucks. Towards that end, I start doing research - not just whatever brochure or statement released by the companies I'm interested in, but, say, hop in my motorhome and visit a bunch of the physical sites owned by these companies - everything from downtown warehouses and factories to middle of nowhere railroad tracks and the like. And, as much as I can, I talk with the grunts doing the actual work. Can't say for sure, but it seems to me that at least some indie types in a position to do this sort of thing would do this sort of thing.

Okay...so, if what I see while roaming about matches up fairly well with the companies claims, that's one thing.

 

But suppose what I see *does not* match up with what the company says? Suppose instead of a prosperous company raking in the bucks, I see dilapidated shops, employees about one step from going on strike, and other severe issue brushed under the table - say something with the potential to cause environmental havoc like these train derailments or burn down a significant portion of some state? Then suppose I'm fool enough to start yakking about this on social media, posting pics and clips to back up what I've discovered.

How much trouble am I in?

 

 

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16 minutes ago, ThinkerX said:

Okay...something past responses from Chataya and other board financial gurus here got me to wondering about.

Suppose I were fool enough to become an indie day trader or something of the sort and decided to avoid all the brokers and whatnot whenever possible. (I figure that even now there must be quite a few folks doing this. Nest egg to get started isn't all that great, so, I want to get the most bang for my bucks. Towards that end, I start doing research - not just whatever brochure or statement released by the companies I'm interested in, but, say, hop in my motorhome and visit a bunch of the physical sites owned by these companies - everything from downtown warehouses and factories to middle of nowhere railroad tracks and the like. And, as much as I can, I talk with the grunts doing the actual work. Can't say for sure, but it seems to me that at least some indie types in a position to do this sort of thing would do this sort of thing.

Okay...so, if what I see while roaming about matches up fairly well with the companies claims, that's one thing.

 

But suppose what I see *does not* match up with what the company says? Suppose instead of a prosperous company raking in the bucks, I see dilapidated shops, employees about one step from going on strike, and other severe issue brushed under the table - say something with the potential to cause environmental havoc like these train derailments or burn down a significant portion of some state? Then suppose I'm fool enough to start yakking about this on social media, posting pics and clips to back up what I've discovered.

How much trouble am I in?

 

 

Sometimes those dilapidated buildings and ready to strike workers are signs of record stock prices and /or dividends!  

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1 hour ago, ThinkerX said:

How much trouble am I in?

Doesn't sound much different to what short sellers do. And I understand they don't get into any trouble unless the company successfully sues them, which is usually tough for the company to win (though a win isn't necessary if the company can just throw money at it and drag it out).

See the recent Hindenburg report on Block, where Hindenburg alleges Block has massive fraud and compliance issues etc. The share price crashed by 15%, Block threatens to take legal action...etc etc.

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On 3/27/2023 at 12:37 PM, DireWolfSpirit said:

Ive read some articles on the Swiss bank bailout explaining the unusual nature of that action. Amounting to bailing stock stakeholders in front of the bondholders. Which is not the usual order of liability. Bondholders considering sueing over that arrangement.

 

On 3/27/2023 at 1:13 PM, Paxter said:

It's a tricky one. I have read many analyst notes over the years stating that CoCo bonds are impossible to value (or to risk rate) because it's not clear their position in the hierarchy will be respected. The triggers for writing off these instruments are very discretionary on the part of the authorities. 

As an aside, most bondholders of CS will have their position in the liquidation hierarchy respected. It's only the holders of these CoCos (largely big hedge funds, not your Mum and Dad) that will be losing out. 

I had my team steer clear of any CoCo bonds when they were initially unveiled to great fanfare.  The small additional spread seemed paltry compensation that you would get “bailed in” whenever it was politically expedient.

It’s wrong that the CS AT1s were completely wiped out while shareholders received $3bn+ (only because shareholders had to vote to approve) but even if CoCos just got the same deal as each shareholder (so a straightforward conversion) then it’s still a bloodbath relative to the yield pick-up they offered.

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3 hours ago, ThinkerX said:

Okay...something past responses from Chataya and other board financial gurus here got me to wondering about.

Suppose I were fool enough to become an indie day trader or something of the sort and decided to avoid all the brokers and whatnot whenever possible. (I figure that even now there must be quite a few folks doing this. Nest egg to get started isn't all that great, so, I want to get the most bang for my bucks. Towards that end, I start doing research - not just whatever brochure or statement released by the companies I'm interested in, but, say, hop in my motorhome and visit a bunch of the physical sites owned by these companies - everything from downtown warehouses and factories to middle of nowhere railroad tracks and the like. And, as much as I can, I talk with the grunts doing the actual work. Can't say for sure, but it seems to me that at least some indie types in a position to do this sort of thing would do this sort of thing.

Okay...so, if what I see while roaming about matches up fairly well with the companies claims, that's one thing.

 

But suppose what I see *does not* match up with what the company says? Suppose instead of a prosperous company raking in the bucks, I see dilapidated shops, employees about one step from going on strike, and other severe issue brushed under the table - say something with the potential to cause environmental havoc like these train derailments or burn down a significant portion of some state? Then suppose I'm fool enough to start yakking about this on social media, posting pics and clips to back up what I've discovered.

How much trouble am I in?

 

 

Why would you be in trouble?  We want to bring good information into the markets.  The whole underlying point of markets is to use information via price mechanism to determine where capital is most valuably deployed in our economy.

If, however, you lied in an attempt to manipulate prices, then you can be in trouble.  The company could sue you for making false claims that damaged them financially.  The SEC could prosecute you for market manipulation.  Neither are likely unless your social media campaign was very effective.

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3 hours ago, Iskaral Pust said:

Why would you be in trouble?  We want to bring good information into the markets.  The whole underlying point of markets is to use information via price mechanism to determine where capital is most valuably deployed in our economy.

If, however, you lied in an attempt to manipulate prices, then you can be in trouble.  The company could sue you for making false claims that damaged them financially.  The SEC could prosecute you for market manipulation.  Neither are likely unless your social media campaign was very effective.

So...if I am honest about it - if I were to say this warehouse is a fire hazard or those railway tracks are an invite to a major derailment and back that up with pictures, then that doesn't land me in legal trouble. 

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1 hour ago, ThinkerX said:

So...if I am honest about it - if I were to say this warehouse is a fire hazard or those railway tracks are an invite to a major derailment and back that up with pictures, then that doesn't land me in legal trouble. 

Unless you’re some sort of qualified safety engineer, those sound like a lay-person’s opinion and should be qualified as such.  But absolutely post the pictures as supporting evidence and let others form their own opinions too. 

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Some of these arguments are why I'm actually against bans on short-selling. For sure, some hedge funds and other outfits overdo it and go on the attack just to land a quick buck, even if their facts and case aren't all that solid and they're relying on fear to make the short attack work. But in the long run very few sound companies get done over and some short bets have famously blown up - Bill Ackman vs Herbalife, for instance.

At their best, short sellers are vigilantes going where an under-resourced SEC can't or won't - a necessary evil to keep the market honest.

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13 minutes ago, Jeor said:

Some of these arguments are why I'm actually against bans on short-selling. For sure, some hedge funds and other outfits overdo it and go on the attack just to land a quick buck, even if their facts and case aren't all that solid and they're relying on fear to make the short attack work. But in the long run very few sound companies get done over and some short bets have famously blown up - Bill Ackman vs Herbalife, for instance.

At their best, short sellers are vigilantes going where an under-resourced SEC can't or won't - a necessary evil to keep the market honest.

This is exactly why we should all support short selling as a healthy skepticism and a path to unveiling fraud or plain ol’ incompetence.  Anyone who complains about short selling is just trying to prop up one of those.

Short selling is very expensive and risky, and very, very difficult to actually make a profit.  It’s a terrible way for an unscrupulous operator to make a fast buck.  An unscrupulous operator is far more likely to own a start-up with misleading hype to get a big IPO pay-day, or buy a small pharma and hike the prices on insulin or epipens.

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56 minutes ago, Iskaral Pust said:

Short selling is very expensive and risky, and very, very difficult to actually make a profit.  It’s a terrible way for an unscrupulous operator to make a fast buck.  An unscrupulous operator is far more likely to own a start-up with misleading hype to get a big IPO pay-day, or buy a small pharma and hike the prices on insulin or epipens.

Yes, plenty of shorts get run over. It's hard to hold onto your bets when a gravity-defying stock continues to ignore the fundamentals, even when your short thesis is correct. Part of the run-up in Tesla this year is due to short sellers closing out their positions once it dropped low enough - you'd find a brave short willing to go against the fanatical Tesla stockholders, even though the stock does seem wildly overvalued.

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On 3/29/2023 at 1:52 AM, Iskaral Pust said:

It’s wrong that the CS AT1s were completely wiped out while shareholders received $3bn+

Why is that wrong? It was clearly stated in the conditions as far as I can read it.

Wrong would be if any authority would have changed the rules as soon as it becomes inconvenient for the wrong people, and I say that as someone who is affected in a very indirect way. (Via Allianz stock)

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12 hours ago, kiko said:

Why is that wrong? It was clearly stated in the conditions as far as I can read it.

Wrong would be if any authority would have changed the rules as soon as it becomes inconvenient for the wrong people, and I say that as someone who is affected in a very indirect way. (Via Allianz stock)

International norms agreed to by Switzerland among others in the G20 state that, in the resolution of a financial institution, authorities should: 

Quote

allocate losses to firm owners (shareholders) and unsecured and uninsured creditors in a manner that respects the hierarchy of claims;

This principle ensures that a resolution (which is a technical term for trying to keep a bank going after an insolvency trigger) operates in a way that is economically similar to a liquidation. It is good for market stability as stakeholders won’t view resolution as more risky than liquidation.

You’re right of course that the legal terms of the bond allowed Swiss authorities to violate the above. But they still violated it. But who cares anyway since it’s hedge funds losing out :P. 

ETA: If you want to read more about resolution is supposed to work, search for “Key Attributes of Effective Resolution Regimes”.

Edited by Paxter
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7 hours ago, kiko said:

Why is that wrong? It was clearly stated in the conditions as far as I can read it.

Wrong would be if any authority would have changed the rules as soon as it becomes inconvenient for the wrong people, and I say that as someone who is affected in a very indirect way. (Via Allianz stock)

It’s wrong because the AT1s should be converted to stock during financial stress and should then get, at worst, the same outcome as common stock holders.  That’s what being “bailed in” means.

But in this case the Swiss financial authorities decided to write the AT1s down to zero even though the stock holders received some positive value for their shares.  CoCos should receive a treatment no worse than common stock.  The CoCo terms allow the financial authority to decide when the bonds should convert to stock (to bail-in) but not to structure it so that the equity owners receive some terminal value and then the conversion happens “after” this terminal value and are somehow worth zero.  

That’s why the UK and EU financial authorities immediately made public statements to reaffirm that CoCos in their jurisdictions are above stocks in the capital stack and will always receive a treatment no worse than common stock.

There will be a long lawsuit about the CS AT1s to challenge this outcome. 

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1 hour ago, Paxter said:

International norms agreed to by Switzerland among others in the G20 state that, in the resolution of a financial institution, authorities should: 

This principle ensures that a resolution (which is a technical term for trying to keep a bank going after an insolvency trigger) operates in a way that is economically similar to a liquidation. It is good for market stability as stakeholders won’t view resolution as more risky than liquidation.

You’re right of course that the legal terms of the bond allowed Swiss authorities to violate the above. But they still violated it. But who cares anyway since it’s hedge funds losing out :P. 

ETA: If you want to read more about his resolution is supposed to work, search for “Key Attributes of Effective Resolution Regimes”.

CoCo bonds are generally held by pension plans, insurance companies and other similar credit bond investors.  The issue isn’t just what happens to the specific Credit Suisse AT1s, it’s what are all of the other CoCo bonds from other banks worth if they can arbitrarily be made the patsy and absorb disproportionate losses when it’s politically expedient?

Buyers of CoCos recapitalized European banks when it was needed at a much lower cost to banks (and their customers and tax-payers) than issuing equity because they would be mezzanine debt, but now suddenly the rules got reinterpreted.  Good luck capitalizing any more banks at anything less than exorbitant cost.  Investors are already asking whether banks should have permanently lower P/E and P/B — raising the cost of capital because their profits have not been worth their risk.

That’s why the UK and EU were so quick to reaffirm the relative hierarchy for CoCos.

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My understanding was that CoCos are only a very thin layer of funding. But I guess it was quite cheap so would still be a loss from an overall cost of capital perspective if they fall in popularity. 

Here in Canada, we did the same thing as the EU with an announcement on respect for the creditor hierarchy. Whether it works or not is a different story.

ETA: And yeah obviously the wider banking industry is going to be squeezed now. Higher cost of funding to retain deposits and lower profitability, particularly for regional banks that rely on NIM.

Edited by Paxter
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