While the epic collapse of Silicon Valley Bank (SIVB) recently sent shockwaves through the financial markets and eroded confidence in other banks, bank crises have existed for as long as banks have been around. The classic Christmas movie, It’s a Wonderful Life, is the easiest way to understand the concept. Banks, in their simplest form, take in deposits and then make loans with that money. The bank earns the difference between the interest it pays depositors and the rate charged on loan, less any losses if borrowers don’t repay the loan. Like the Bailey Brothers Building and Loan, banks don’t have the cash available to repay depositors if a large number want to make withdrawals simultaneously, also known as a run on the bank. Even otherwise solvent banks can be destroyed by a crisis of confidence.
A combination of factors primarily stemming from rising bond yields and large deposit outflows has put some banks under duress. Glenview’s analysis of the U.S. banking system (available on our website or by request) indicates that the capital levels and, thus, the ability to withstand losses and a decline in deposits are at a multi-decade high. While the average regional or money center bank is in no significant danger, some financial institutions face more substantial risk.
Following the collapse of Silicon Valley Bank, the Federal Reserve announced a new facility, the Bank Term Funding Program (BTFP), to help banks meet withdrawal requests from depositors and restore confidence. While some have clamored for a blanket increase of the $250,000 FDIC insurance limit, this cannot be done without Congressional action. At a minimum, additional regulation and minimum capital requirements for midsize banks are likely, but it will take time for Congress to act.
The Federal Reserve recently hiked short-term interest rates by another 25 basis points (0.25%) to continue the fight against inflation. Still, Chair Powell indicated that only one more interest rate increase is expected in this cycle. While Powell doesn’t expect any cuts to short-term rates during 2023, markets are pricing in multiple rate decreases beginning this summer. The anticipated reduction in the availability of credit stemming from the banking crisis should help curb inflation but makes a recession more likely.
In conclusion, it is improbable that the U.S. banking system will suffer a widespread collapse. Unlike the Global Financial Crisis, the current banking challenge looks like one of liquidity for most banks rather than an issue of solvency. Selective pressure on some banks perceived to be in weaker financial condition could continue, though. Despite our constructive view on the banking sector, investors would generally be wise to keep bank deposit sizes below FDIC limits and know what they own when investing in the financial sector. While the economy and labor market look solid now, the pressure on the banking system has increased the probability of a weakening economy or a recession in 2023.
Please don’t hesitate to contact your Glenview team with any further questions or concerns.