Evening Brief – 05.08.23
Three US banks have already failed, representing the greatest relative annual total since the Great Recession, with combined assets exceeding $500 billion, and other regional banks continue to face severe pressure.
Examining market adjustments for the remaining institutions might help determine the magnitude of the harm. Most banks have experienced negative excess returns for the year so far, with many declining more than 25%. A small amount has decreased by more than 50%, and a small number of very troubled institutions have decreased by as much as 75%.
Who is still in danger? Looking at the returns of banks by asset size reveals relatively small declines for the too-big-to-fail banks like JPMorgan or Bank of America and for the nation’s tiniest banks, but significant declines for institutions in the $5bn to $150bn range. So far, the majority of the damage has been concentrated among “mid-sized” or “regional” banks.
A variety of institutions are now at risk, but recent emphasis has been focused on Pacific Western and Western Alliance, smaller regional banks with $41bn and $67bn in assets, respectively, who saw considerable but so far controllable deposit outflows over the last several months.
First Horizon has plummeted following the cancellation of a merger with TD Bank. Zions Bank, Comerica, and commercial and real estate powerhouse KeyBank have also experienced declines.
Banks’ exposure to long-term assets in general, rather than just excess exposure to Treasury bonds or mortgage-backed securities, is what is increasing the risk of failure. Since the beginning of this year, banks that invest a greater percentage of their capital in assets with a five-year or longer horizon – think real estate – have suffered more than other banks.
When comparing the largest at-risk banks, Zions, Western Alliance, and KeyBank all have high exposure to long-term assets. While not at the level of Silicon Valley Bank or First Republic, these banks increased their exposure during the epidemic.
The underlying vulnerabilities of uninsured deposits and a banking sector with significant unrealized losses on long-term assets haven’t changed.