It seems like the US banking crisis is not over yet. On May 1, 2023, the regulators decided to seize debt-ridden First Republic Bank (FRB) and sold all of its deposits and majority of its assets to the biggest bank, JPMorgan Chase. This was done to limit the turmoil in banking sector. However, despite almt he efforts FRB failed. This failure was after obtaining $30 billion funding from 11 of largest banks in the US in mid-March.
FRB was categorised as 14th largest US bank, with total assets coming at $229 billion and total deposits at $104 billion as on Apr 13, 2023. FRB was not typically a mid-sized American bank, it provided wealth management and brokerage services only to affluent and renowned clients.
Since early March, challenges and problems have only increased for the regional banking sector, with the collapse of SVB and Signature Bank. Past couple months have seen 3 of the 4 biggest bank failures in the history of United States. FRB, SVB, and Signature Bank are presently second, third, and fourth largest bank failures, respectively, after Washington Mutual got acquired by JPMorgan. Talking about the numbers, 3 recently-failed banks together had assets of $532 billion. This exceeds $526 billion (inflation adjusted) held by 25 banks which failed during global financial crisis.
What has led to US banking crisis?
Current regional US banking crisis was fuelled by several factors such as rapid rise in interest rates, higher uninsured deposits, regulatory rollbacks, etc. As a result of higher interest rates, there were large declines in the market value of T-bonds and government-backed mortgage securities which were held by regional banks.
This crisis began when Silvergate Capital Corporation, a bank focused on cryptocurrency, decided to voluntarily declare about its liquidation. This happened as it suffered losses due to the collapse of crypto exchange FTX. After few days, the US regulators decided to shut down SVB. This was a well-known lender to early-stage tech start-ups and VC firms in SF Bay Area.
Around mid-March, New York regulators decided to shut down Signature Bank. This bank was focused on cryptocurrency customers. Soon after, FRB was the focus of turmoil. This was because worried customers thought that it can be the next bank to fail. If we do a detailed analysis, it becomes quite visible that failed US banks had lots of things in common. Firstly, they grew at a rapid pace utilising short-term funding before collapsing. Then, all of their assets were invested in long-dated T-bonds and MBS, exposing them to large and unrealised losses as a result of higher interest rates in 2022-23. Finally, all these banks had the large concentration of uninsured deposits and several other short-term liabilities. These can be withdrawn right at the moment.
Rollbacks of regulatory guidelines by the US Congress and lax supervision of banks by the central bank contributed to prevailing crisis in the regional banking space. Trump administration weakened 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act. The main purpose of this act was to safeguard financial stability in aftermath of global financial crisis. The US Congress made amendments in the Dodd-Frank Act to significantly reduce the number of banks which should be subject to stricter regulatory requirements like stronger capital and liquidity rules, rigorous stress testing, etc.
Such changes raised the threshold for enhanced regulatory standards from $50 billion to $250 billion. As a result, SVB and Signature Bank both were exempted from new regulations.
Despite the fact that amended regulations were targeted at lifting regulatory pressures which are there on small and medium-sized banks, 25 large banks (and the list includes Credit Suisse — which failed in mid-March) carrying out operations in the U.S. got exemptions.
Data suggests $78 billion wiped out
Recent data from the Federal Reserve Economic Data exhibit that a whopping $78 billion have been wiped out from American bank accounts over just one week (July 5 to July 12).
Going by the data, after the stable 2-week period, the withdrawal of deposits took place due to big banks investing significant amounts of cash in third-party intermediaries so that new deposits can be attracted. Pressure continues to increase on banks to compete with high-yielding money market accounts. As a result of this, there is a pressing need for such strategies which can help retain and attract customers.
Data shows that ~576 banks are presently overexposed to commercial real estate loans, exhibiting a rise of 30% on year-over-year basis. Banks continue to monitor potential repercussions in the commercial real estate sector as a result of a rise of remote/hybrid work cultures.
Commercial real estate loan delinquency rate at the banks in the US grew quarter over quarter, with the industry’s total CRE loans rising during 1Q23. Delinquency rate went up sequentially by 12 bps to 0.77% by March end, highest since 0.83% seen during 3Q21. On an annual basis, delinquency rate grew by 5 basis points. Total CRE loans at US banks saw a rise of 0.5% to $2.436 trillion as at March 31 from $2.422 trillion at 2022 end.
The US Federal Reserve has recently released 2023 Federal Reserve stress test results. The test has shown that 23 large banks, which were subject to the test this year, have enough capital to absorb over $540 billion in losses and continue financing households and businesses under difficult conditions. In the same report, the apex bank has predicted that over half a trillion dollars might get exited the U.S. banking system in the “severely adverse” circumstances.
Aggregate and individual bank post-stress CET 1 capital ratios are well-above the required minimum levels across the projection horizon.
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