It makes me laugh so hard to think about all the SMR conversations I had with CFOs and CEOs about simulating +400 bps interest rate shocks over 1 yr and the impact to their balance sheets only to hear "rates don't move like that anymore". Cursory looks at UBPRs tell a gruesome story. Next 5-10 years the wave of failures/consolidation will be interesting to watch
It is criminal that companies manage their capital poorly.
Share price way up and earnings up? Buy back shares
Share price down and cashflow bad? Issue shares
We know why (got to max out those RSUs & options when the going is good). But watching it happen in real time over and over is maddening.
One of our employers bought back a ton of cheap, long debt and was buying massive shares pre-Covid. Then stopped the buyback during Covid when stock was down 60%. And just put out a ton of debt at +5% of what it brought back. Destroying value on volatility.
Hilarious. If they lower rates you’re right back to high velocity and crazy inflation. If you keep rates high, you’re printing to bail out the banks. No matter what it’s inflation. Thanks for playing.
They’ll just bail out the big boys while they scoop up the smaller banks for Pennie’s on dollar subsidized by Janet. Only big banks remain and they’re essentially nationalized
Wow this post hits hard. To fight inflation you want to suck money out of the system. To suck money out of the system you make sure credit is tight and or crash the stock/bond market. Failing banks can do both at the same time. If I’m Powell and what inflation to go down fast I crash the right banks asap, big but not too big.
Many are missing some key points. First, FRC is not a small bank or even regional bank. It is $200bn. Vast majority of banks in US are sub $1bn and privately owned.
Most small banks were not being greedy or taking “excessive” risk to make money off the backs of depositors. Interest rates have been artificially low for 10+ years. It has been a difficult operating environment for banks and, yes, many banks took more interest rate risk than they should have to generate earnings. But investing in US Treasuries or muni bonds at 3% to make a spread is not an inherently “risky” endeavor unless there is a damn run on the bank! The Fed raised rates faster than banks could anticipate and many were caught out of position.
Funny thing is bankers have been concerned about this issue for over a year now. Banks could move deposit rates up enough after so many years of zero rates. The general public is waking up to it this past week when it has been front and center at every ALCO meeting of banks for the past year. Regulators haven’t been worried about it at all either. Because it does not rise to the forefront until there is depositor flight. And 5% rates seemed to finally break the system.
All that is going to change (assuming small banks survive). Duration risk will become something banks and regulators pay far more attention to. Level of uninsured depositors is going to matter more. Relationships and core “sticky” deposits will matter more. Banks will pull back on lending and shrink their balance sheets...recession imminent. The 30yr mortgage might get abolished. Banks will hold higher capital. FDIC might insure all deposits, but banking will become a much harder business. Consolidation will increase more than ever in the industry. Fun times!
Not to mention, it’s about damn time there are some credit issues at banks. You will start hearing more about nonperforming loans and credit quality issues. There hasn’t been a bad loan made in 10 years, which is unnerving.
Not looking so good on this side of the fence, so good to know the jungle is staying prepared!
Yep agree it was a fed induced situation. "Hey rates are going to be low for a long period of time"
Couple months later "We're raising to 5% quickly" =????
Of course they shouldn't have committed to low rates for a long time after printing 10s of trillions. They should have stated this is a temporary drop in rates and if you loan out too much you may be killed if we're forced to raise to combat potential inflation
You can get 4.75% (boosted - normal 3.75%) in a savings account with no minimum via Marcus by Goldman Sachs. It's FDIC insured so up to $250K but we all know GS is too big to fail so...
Here is a referral to sign up: (we both get 4.75% rate for 3 months and anyone you refer will get you and them an extra 1% for 3 months)
hindsight 20/20, what would have been a good move for these regional banks?
Was it possible to sell these 3% mortgages off immediately and keep 1% for themselves? i.e. package and sell them with a 2% yield to a pension fund or other institutional investor and keep 1%?
or was that still too risky for the institutional investors, even back then in a 0% environment?
The banks were making a 1% origination fee on each mortgage too.
Actually another one is in the post. If you just made tons of gains and you know rates might go up you could have raised cash (end of 2021/early 2022) under the disguise of "high opportunities need money for more yield!", then left it on the balance sheet and then you'd be solvent for many years.
Anon with some regional banking experience chiming in.
Securitizing the vast majority would have been a home run vs portfolio’ing them because you’d just collect the mortgage servicing rights which will appreciate as rates go up (mortgage is less likely to refi so you clip the 25bps of servicing over a longer horizon).
If you had to hold on sheet, you could hedge by paying fixed on swaps and synthetically converting the mortgages to floating rates or buying interest rate caps on LIBOR/SOFR (Same playbook you could run on your MBS book). But as another anon mentioned everybody thought “inflation is TRANSITORY” so why add these upside hedges when the lat cycle peaked at 2.5%? By the time that people realized they should hedge it was expensive and then nobody wants to do it.
Is there a chance these events affect banker psychology for a while? For example instead of offering 3% rates when interest rates are near zero they make them significantly higher to protect against the possibility of rate hikes catching them with their pants down again?
Strange question: I have an unused PLOC with FRC with interest rate locked in at ~3.95%. Is there any logic in drawing that down and doing something productive with it before they implode? Unless I'm missing an unseen downside, feels low risk to draw it down, buy treasuries at ~4.5%, and pocket the spread?
May or may not have locked mine in at 2.5% mid plandemic. All money may or may not be in an account paying 4% and waiting for stock market and crypto deals
Friendly neighborhood former bank regulator here:
It makes me laugh so hard to think about all the SMR conversations I had with CFOs and CEOs about simulating +400 bps interest rate shocks over 1 yr and the impact to their balance sheets only to hear "rates don't move like that anymore". Cursory looks at UBPRs tell a gruesome story. Next 5-10 years the wave of failures/consolidation will be interesting to watch
Yep will be consolidation
It is criminal that companies manage their capital poorly.
Share price way up and earnings up? Buy back shares
Share price down and cashflow bad? Issue shares
We know why (got to max out those RSUs & options when the going is good). But watching it happen in real time over and over is maddening.
One of our employers bought back a ton of cheap, long debt and was buying massive shares pre-Covid. Then stopped the buyback during Covid when stock was down 60%. And just put out a ton of debt at +5% of what it brought back. Destroying value on volatility.
Hilarious. If they lower rates you’re right back to high velocity and crazy inflation. If you keep rates high, you’re printing to bail out the banks. No matter what it’s inflation. Thanks for playing.
Not quite think it through on the rates being high, since they won't bail out all of them but yeah you're close!
They’ll just bail out the big boys while they scoop up the smaller banks for Pennie’s on dollar subsidized by Janet. Only big banks remain and they’re essentially nationalized
That is true and the long-term goal
Wow this post hits hard. To fight inflation you want to suck money out of the system. To suck money out of the system you make sure credit is tight and or crash the stock/bond market. Failing banks can do both at the same time. If I’m Powell and what inflation to go down fast I crash the right banks asap, big but not too big.
Yep.
Many are missing some key points. First, FRC is not a small bank or even regional bank. It is $200bn. Vast majority of banks in US are sub $1bn and privately owned.
Most small banks were not being greedy or taking “excessive” risk to make money off the backs of depositors. Interest rates have been artificially low for 10+ years. It has been a difficult operating environment for banks and, yes, many banks took more interest rate risk than they should have to generate earnings. But investing in US Treasuries or muni bonds at 3% to make a spread is not an inherently “risky” endeavor unless there is a damn run on the bank! The Fed raised rates faster than banks could anticipate and many were caught out of position.
Funny thing is bankers have been concerned about this issue for over a year now. Banks could move deposit rates up enough after so many years of zero rates. The general public is waking up to it this past week when it has been front and center at every ALCO meeting of banks for the past year. Regulators haven’t been worried about it at all either. Because it does not rise to the forefront until there is depositor flight. And 5% rates seemed to finally break the system.
All that is going to change (assuming small banks survive). Duration risk will become something banks and regulators pay far more attention to. Level of uninsured depositors is going to matter more. Relationships and core “sticky” deposits will matter more. Banks will pull back on lending and shrink their balance sheets...recession imminent. The 30yr mortgage might get abolished. Banks will hold higher capital. FDIC might insure all deposits, but banking will become a much harder business. Consolidation will increase more than ever in the industry. Fun times!
Not to mention, it’s about damn time there are some credit issues at banks. You will start hearing more about nonperforming loans and credit quality issues. There hasn’t been a bad loan made in 10 years, which is unnerving.
Not looking so good on this side of the fence, so good to know the jungle is staying prepared!
Yep agree it was a fed induced situation. "Hey rates are going to be low for a long period of time"
Couple months later "We're raising to 5% quickly" =????
Of course they shouldn't have committed to low rates for a long time after printing 10s of trillions. They should have stated this is a temporary drop in rates and if you loan out too much you may be killed if we're forced to raise to combat potential inflation
Too late though.
You can get 4.75% (boosted - normal 3.75%) in a savings account with no minimum via Marcus by Goldman Sachs. It's FDIC insured so up to $250K but we all know GS is too big to fail so...
Here is a referral to sign up: (we both get 4.75% rate for 3 months and anyone you refer will get you and them an extra 1% for 3 months)
https://www.marcus.com/share/FRA-2EU-PHVZ
Good tip!
hindsight 20/20, what would have been a good move for these regional banks?
Was it possible to sell these 3% mortgages off immediately and keep 1% for themselves? i.e. package and sell them with a 2% yield to a pension fund or other institutional investor and keep 1%?
or was that still too risky for the institutional investors, even back then in a 0% environment?
The banks were making a 1% origination fee on each mortgage too.
Actually another one is in the post. If you just made tons of gains and you know rates might go up you could have raised cash (end of 2021/early 2022) under the disguise of "high opportunities need money for more yield!", then left it on the balance sheet and then you'd be solvent for many years.
Answer is probably to sell off quickly as soon as they saw Jerome announce he was going to quickly raise rates. Move fast, too late though
Anon with some regional banking experience chiming in.
Securitizing the vast majority would have been a home run vs portfolio’ing them because you’d just collect the mortgage servicing rights which will appreciate as rates go up (mortgage is less likely to refi so you clip the 25bps of servicing over a longer horizon).
If you had to hold on sheet, you could hedge by paying fixed on swaps and synthetically converting the mortgages to floating rates or buying interest rate caps on LIBOR/SOFR (Same playbook you could run on your MBS book). But as another anon mentioned everybody thought “inflation is TRANSITORY” so why add these upside hedges when the lat cycle peaked at 2.5%? By the time that people realized they should hedge it was expensive and then nobody wants to do it.
Where can I find the full WSP archive please?
https://web.archive.org/web/20210414230546/https://wallstreetplayboys.com/ - enjoy degens!
Is there a chance these events affect banker psychology for a while? For example instead of offering 3% rates when interest rates are near zero they make them significantly higher to protect against the possibility of rate hikes catching them with their pants down again?
Well in theory they should have known the massive money printing and 0% wouldn't last forever and should have had stronger lending requirements
Unfortunately, decisions are made by greed so they piled on in.
Now you're seeing exactly that, you'll see a lot of "financing fell through" for new loans
Strange question: I have an unused PLOC with FRC with interest rate locked in at ~3.95%. Is there any logic in drawing that down and doing something productive with it before they implode? Unless I'm missing an unseen downside, feels low risk to draw it down, buy treasuries at ~4.5%, and pocket the spread?
Don't know the terms but if you have access to any credit at < treasury rate then of course take it and just put it into treasuries.
If you can borrow at <4.5% and get guaranteed 4.5% from government that's an incredible set up.
Again don't know terms of your agreement
May or may not have locked mine in at 2.5% mid plandemic. All money may or may not be in an account paying 4% and waiting for stock market and crypto deals
HN may or may not be in an advantageous situation.