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Banks on the Brink: 2023 Mini-Crisis


Paxter
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2 hours ago, Mlle. Zabzie said:

Only good news on the debt ceiling brinksmanship is that tax collections have been solid so we have into July.  But, that means the uncertainty will also last until July because you know they will use every minute they have.

Well, somewhat surprisingly, the GOP House did pass a budget - albeit one filled with horrible cuts that will not pass muster with the senate.

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On 4/25/2023 at 1:06 PM, Larry of the Lake said:

I keep seeing this thread and hoping there's new posthumous Iain Bank's material coming out.  Boooooo!

There is!

A book of behind-the-scenes notes and even artwork and illustrations he did of Culture ships is coming out in the near future.

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The FT is reporting that JP, Citizens and PNC (all in the top 20 banks in the country by assets) have submitted bids to purchase the book of (presumably) failed First Republic. Whoever wins it will be getting a decent deal since the assets will likely benefit from a loss-sharing agreement.

I don't expect any systemic jitters or further deposit flight outside of First Republic when the market opens tomorrow. 

Edited by Paxter
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Yes, First Republic might end up being an orderly sale which wouldn't shake the markets too much.

The debt ceiling battle is going to be the next major market-mover. Surprised that McCarthy managed to get the House Republicans to pass something but he probably only got the votes from detractors because they knew it wasn't actually going to get up.

On the banking front, it will be interesting if the Fed can keep up the hard part of the bargain. Raising rates when inflation is high and well above target - while unpopular - is pretty orthodox and textbook defensible. But the market is expecting them to cut later this year when inflation hasn't returned to target yet. And leaving rates on hold when the economy is going downhill (But inflation is still high) is going to be the hard part for the Fed. Various banks and market participants banking on cuts may get stung if they hold their nerve.

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7 hours ago, Jeor said:

Yes, First Republic might end up being an orderly sale which wouldn't shake the markets too much.

The debt ceiling battle is going to be the next major market-mover. Surprised that McCarthy managed to get the House Republicans to pass something but he probably only got the votes from detractors because they knew it wasn't actually going to get up.

On the banking front, it will be interesting if the Fed can keep up the hard part of the bargain. Raising rates when inflation is high and well above target - while unpopular - is pretty orthodox and textbook defensible. But the market is expecting them to cut later this year when inflation hasn't returned to target yet. And leaving rates on hold when the economy is going downhill (But inflation is still high) is going to be the hard part for the Fed. Various banks and market participants banking on cuts may get stung if they hold their nerve.

Looks like JPM won the auction. 

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First Republic ends up being the second-largest bank failure in US history, with assets just slightly higher than SVB. 

With this receivership, it’s possible that Chapter 1 of this crisis (or Chapter 2 if you want to include the LDI affair in the UK last year) is over. What next? Probably a test of credit quality in various key portfolios (e.g., commercial real estate).

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1 hour ago, Paxter said:

First Republic ends up being the second-largest bank failure in US history, with assets just slightly higher than SVB. 

With this receivership, it’s possible that Chapter 1 of this crisis (or Chapter 2 if you want to include the LDI affair in the UK last year) is over. What next? Probably a test of credit quality in various key portfolios (e.g., commercial real estate).

Mortgage REITs and commercial real estate (REIT and non-REIT) are good guesses.  I’m seeing a lot of “amend and extend” and “uptier” (I.e., exchanging unsecured debt to secured debt) type activity in the regular commercial market.

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1 hour ago, ThinkerX said:

Time for the next tottering bank to enter from stage left, with the CEO loudly insisting that everything is fine?

It's unlikely but it's possible. The core issue with all of the banks so far is a combination of poor regulatory practices (thanks Trump), lack of diversification and specializing in types of money making systems that were particularly prone to damage from higher interest rates. If First Republic wasn't super focused on Jumbo loans or had sold some off and diversified more chances are good they'd be okay. 

Are other banks in that same kind of boat? Well, right now most of the remaining ones are furiously crafting many letters to their customers and stockholders explaining quite clearly why they are NOT in that same boat. But it's certainly possible. It's been quite a while since interest rates have risen this quickly and this highly and you're seeing a number of institutions that put eggs in solitary, interest-free baskets. Probably there are more, but may not be a ton of 'em.

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2 hours ago, ThinkerX said:

Time for the next tottering bank to enter from stage left, with the CEO loudly insisting that everything is fine?

To get a repeat of the first three failures, we'd need to see the double whammy of unrealized bond/loan portfolio losses and large deposit outflows. The first factor is still in play. The decision by the US Govt to implicitly guarantee all bank deposits has helped stem the tide on the second factor. Unfortunately for First Republic, their relatively uninsured deposit book was already running by the time the guarantee was introduced. 

However:

  1. Even the implicit guarantee may not prevent depositors from gradually redistributing funds away from regional banks (e.g., on the hunt for a better return). This could, over time, lead to more zombie banks like FR. 
  2. There are plenty of other things that could go wrong in the current environment outside of the bounds of the above "double whammy" situation. For example (and this is the scenario most of us who work in regulation are preparing for), we could start to see credit losses across portfolios exposed to the worsening economy. Or we could see the failure of a non-bank financial institution cause contagion to a systemic bank. Or we could get a flare up of geopolitical risks (debt ceiling, war in Europe) that shakes confidence in parts of the financial system. Or...plenty of other things :P. 
Edited by Paxter
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4 hours ago, Kalnestk Oblast said:

It's unlikely but it's possible. The core issue with all of the banks so far is a combination of poor regulatory practices (thanks Trump), lack of diversification and specializing in types of money making systems that were particularly prone to damage from higher interest rates. If First Republic wasn't super focused on Jumbo loans or had sold some off and diversified more chances are good they'd be okay. 

Are other banks in that same kind of boat? Well, right now most of the remaining ones are furiously crafting many letters to their customers and stockholders explaining quite clearly why they are NOT in that same boat. But it's certainly possible. It's been quite a while since interest rates have risen this quickly and this highly and you're seeing a number of institutions that put eggs in solitary, interest-free baskets. Probably there are more, but may not be a ton of 'em.

From appearances it seems like 2 Republican administrations in succession deregulating followed by bank failures. So the banks have fooled politicians and govt twice now, this century. Any guesses as to whether they'll get fooled a third time?

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So to @ThinkerX's point above...PacWest is under some serious pressure with the stock price tanking in the after hours.

The positive is that this is a much smaller bank than First Republic. The negative is the continued contagion across regional banks and the worry that the next phase of failures is already upon us. 

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1 hour ago, ThinkerX said:

At this point I have to wonder if we are a year or so out from something like TARP II being seriously considered. (No debate, no serious oversight, none of that ridiculous stuff).

I would still compare this situation more to the S&L crisis than to 2008. That is, we probably won't see bailouts of systemic institutions in the vein of TARP. But we may see a lot of deposit payouts, which nowadays are funded by the banks themselves (although it's true that the costs are passed on to bank customers). 

The exception so far has been Credit Suisse, which was resolved by a mixture of bail out, bail in (AT1 creditors written off, much to Isk's disgust) and UBS' balance sheet. That failure is straight out of 2008.

ETA: Of course, this is still Phase 1. I think we definitely could see bailouts if we get to a full-blown credit crisis. 

Edited by Paxter
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Pacwest stock tanking. This could become a neverending hunt for the next-weakest wildebeest to pick off, until there's an explicit government guarantee for all banks including the smaller regionals who don't have the systemic protection. Who would've thought that alongside "Too Big To Fail" there was also "Too Small To Fail"?

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5 hours ago, Jeor said:

Pacwest stock tanking. This could become a neverending hunt for the next-weakest wildebeest to pick off, until there's an explicit government guarantee for all banks including the smaller regionals who don't have the systemic protection. Who would've thought that alongside "Too Big To Fail" there was also "Too Small To Fail"?

My view is that the systemic guarantee of deposits is already in place and making it explicit won't change much. No way would Yellen protect SVB depositors and not PacWest. It's unthinkable. 

The reason for the "pick offs" is that the business model of these banks is essentially fried now that the cost of deposits has skyrocketed. I think M&A is really the only way to go here, just as it was in the S&L crisis. 

The other option is something like TARP that could be used to effectively recapitalize the regional banks...which takes us back to full-scale bail-outs. 

Edited by Paxter
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2 hours ago, Paxter said:

My view is that the systemic guarantee of deposits is already in place and making it explicit won't change much. No way would Yellen protect SVB depositors and not PacWest. It's unthinkable. 

The reason for the "pick offs" is that the business model of these banks is essentially fried now that the cost of deposits has skyrocketed. I think M&A is really the only way to go here, just as it was in the S&L crisis. 

The other option is something like TARP that could be used to effectively recapitalize the regional banks...which takes us back to full-scale bail-outs. 

To me it seems like rewarding incompetence. 

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43 minutes ago, ThinkerX said:

To me it seems like rewarding incompetence. 

This is the moral hazard argument.

Of course, if you simply let them fail, a lot of uninsured depositors are going to get hurt. Plus it risks causing more contagion to solvent entities.

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