Did everyone else have bank failure on their bingo card for 2023? Yeah, I didn’t either. After the year of our Lord 2022 mercifully ended, a brief respite from turmoil would have been a welcome occurrence, but alas, here we find ourselves. The most dangerous four words in investing continue to be “This time is different” (as you may have ascertained the dates listed above are prior banking crises). The plot of this chapter may differ from previous iterations, but the theme is all too similar.
On the news of First Republic Banks disastrous plummet, I found myself slouched in a chair in Jake’s office asking if he knew anything about the Savings and Loan Crisis of the mid-1980s. Now admittedly, I wasn’t around for that one. In fact, I am fairly certain I couldn’t walk or feed myself yet, so let’s do a brief recap for everyone. Starting in October of 1979, the Federal Reserve raised its benchmark interest rate from 9.5% to 12% in an effort to reduce inflation (sound familiar?). At that time S&Ls had issued long term loans at fixed interest rates that were lower than the newly mandated interest rate at which they could now borrow. An outflow of deposits began with customers seeking higher yielding savings accounts, CDs, and Money Market Funds. Attempts to attract more deposits by offering higher interest rates on savings accounts led to liabilities that could not be covered by the lower interest rates at which they had loaned money. As a result of this about one third of S&Ls became insolvent.
We have had for more than a decade Zero Percent Interest Rate Policy (ZIRP), which forced investors into dividend paying Equities (stocks) to earn yield they would have typically gotten on Fixed Income (bonds). These created another fun acronym, TINA, standing for “There Is No Alternative”. Because interest rates were held artificially low for so long many of us got used to seeing the interest paid to us in our Checking/Saving Accounts coming in at a whopping 0.03% rate (we’ll come back to this). Try not to spend it all in one place!
Now, let’s flash back to two months ago when we first heard the name Silicon Valley Bank for all the wrong reasons. We could certainly hem and haw about all the reasons that the bank failed. Executive mismanagement? Failure to manage duration risk? An ill-timed capital raise announcement? A Slack Channel? The answer to all those questions is yes, but at the same time there is not a mid-sized bank in the country that could reasonably withstand $40 billion worth of outgoing wires in two hours. Bank Failures were suddenly back in the lexicon.
This failure spurred the government into action, with the FDIC guaranteeing all large deposits and the Federal Reserve re-opening their unlimited Repo operation to provide liquidity to other regional banks to stem the tide of this happening across the board. Which it did……at first.
Now as far as I am aware, the lifeblood of the banking institution is its deposit base (all of us!) keeping their money in the bank. So, let’s revisit that sweet, sweet three tenths of a percent we’ve all been getting on our checking and savings accounts since the Bush Administration. If I could get a quick show of hands for everyone who refinanced debt from 2020-2022 at historically low rates? Yep, that is everyone. All those loans are on the banks’ balance sheet between 2.5% - 3.25%. With the current Federal Funds rate sitting at 5%, personal lending has slowed to a crawl and left interest paid to us on checking and savings well below market rates because the banks cannot pay higher rates without putting their cash flow in jeopardy. HOWEVER, Money Market Funds and CDs are offering yields anywhere from 4-5% spurring depositors to move their cash into those instruments at a great cost to the bank’s deposit base. Unfortunately, there is not a federal solution to fix that issue without taking interest rates back down and ignoring the inflation battle. Talk about a rock and a hard place.
Is this the same as The Great Financial Crisis of 08-09? Absolutely not, the money is all still in the system, just in a different place presenting a different threat to regional banking institutions. There will probably be more banks forced into FDIC receivership in the coming days, weeks, and months. However, the systemic risk from the last recession is fortunately absent in this case. The plot of this chapter is a different variation, but the theme remains the same, another storm to be weathered with a rainbow at the end.
*The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.
*Economic forecasts set forth may not develop as predicted and there can be no guarantee that strategies promoted will be successful.
*The LPL Financial registered representatives associated with this email may discuss and/or transact business only with residents of the states in which they are properly registered or licensed. No offers may be made or accepted from any resident of any other state.