Graphic: Regional banks face big hurdles a year after SVB collapse

First Republic Bank

07/03/2024 11:00

By Ann Saphir, Saeed Azhar and Lewis Krauskopf
       March 7 (Reuters) - U.S. regional lenders face ongoing
challenges from rising deposit costs and risky office-building
loans a year after the biggest bank failures since 2008.
    The unexpected collapses of three banks - Silicon Valley and
Signature in March 2023 and First Republic in May - put a
spotlight on how lenders managed risks to assets and liquidity
as the Federal Reserve raised interest rates aggressively to
bring surging inflation under control. 
    Now that the Fed has stopped raising rates but has signaled
cuts may not come for another several months, investors have
shifted their focus to the potential for customers to pull their
deposits in times of stress, while gauging lenders' exposure to
the troubled commercial real estate (CRE) sector.  
    "The banking industry needs to make sure it has a strong
hold on its access to liquidity, conduct in-depth deposit stress
testing, and ensure it can withstand significant stress," said
Ryan Nash, banking analyst at Goldman Sachs. "This is something
that all banks will need to plan for in the world ahead.” 
     The tumult prompted emergency government measures to
stabilize the sector alongside downgrades by credit rating
agencies. In recent weeks, New York Community Bancorp  NYCB.N 
has fueled market jitters about renewed weakness in the sector
after it disclosed major losses and warned of material weakness
in its internal controls.
    "Last year’s bank stress underscores the importance of not
becoming complacent," Cleveland Fed President Loretta Mester
said in New York City last week, noting that the bank failures
were due not just to poor risk management but also to weaknesses
in supervision.
    The following graphics show the impact of Silicon Valley
Bank's (SVB) collapse on the industry, one year after its March
10 failure.
    In its immediate aftermath, business lending plunged and
banks pulled back on credit more broadly. 
    
    In recent months, both measures have improved, but are still
below year-ago levels. 
    Commercial lending has bumped along in recent months, barely
regaining lost ground after SVB's failure.    
    Regional banks have relatively large exposure to CRE loans,
compared with larger peers that have more diversified
portfolios. Lenders are under pressure to write down their
losses from CRE as offices remain sparsely populated by workers
on hybrid or remote work arrangements.
    Growth in CRE lending slowed dramatically after SVB's
failure and continued to decelerate through the year. Loans by
regional and community banks, which account for the bulk of CRE
lending, are still above last year, but the biggest banks have
trimmed their CRE loan portfolios. 
    Recent Boston Fed research suggests that, even so, it may be
the biggest banks that are more vulnerable to CRE losses, with
40% of their office building loans in counties with a high share
of work-from home, versus 30% for smaller banks. 
     
    The turmoil of March 2023 triggered "stress for most, crisis
for a few" banks, said Christopher Wolfe, head of North American
Banks ratings at Fitch. It highlighted the importance of banks
maintaining solid insured and operational deposits to underpin
their funding.
    "The banks most caught out were material outliers," in terms
of their sources of deposits, he said.
    Depositors fled smaller U.S. lenders for the safety of
bigger institutions after SVB failed, but some funds have since
flowed back. 
    Overall deposits in banks of all sizes are down compared
with a year earlier as households have spent their savings or
chased higher returns in money markets or rallying equities.
    
    More than 90% of Silicon Valley Bank's deposits were not
insured by a Federal Deposit Insurance Corp guarantee, which
covers at least $250,000 in deposit accounts. 
    SVB's uninsured deposits stood at twice the average of its
peers. It was toppled after clients who were concerned about the
bank's health pulled their money, regulators found. 
    Since last year, the proportion of uninsured deposits in the
industry has declined, FDIC data shows.     
    "When your customer deposit base is making big withdrawals
over the short term, it will definitely cause a liquidity
squeeze," said Stephen Biggar, analyst at Argus Research.
    "No amount of capital levels will be able to save a bank
that has 40% of their deposits leave in 24-48 hours."
     
    Investors generally expect regional bank stocks to be more
volatile than stocks of bigger banks and larger financial
institutions. 
    For this reason, there tends to be a gap between the implied
volatility of regional stocks and larger banks. This gap, which
widened sharply during the March turmoil, has not gone back to
pre-crisis levels. The spread reflects investors' lingering
perception that regional banks are a less safe bet than bigger
lenders.
    
    "The risks facing regional banks right now would be an
environment of higher-for-longer rates," said Richard
Saperstein, chief investment officer of Treasury Partners. As
banks pay more to retain customer deposits, the money they earn
from interest payments is eroded, he said, referring to a
measure called net interest margin.     
    Saperstein expects more banks to set aside reserves for
potential losses on CRE loans, particularly related to offices.
He also predicts ratings agencies will continue to downgrade
regional lenders.   
    
    Regional banks in particular saw a decline in net interest
income as they had to pay more to depositors versus larger peers
while demand from borrowers stays subdued.
    The stocks of regional lenders were hit when SVB's troubles
first emerged, and have lagged the overall U.S. equity market
over the past year.

    
    The KBW Regional Banking index  .KRX  has slumped roughly
12% since the banking issues first flared in March 2023, while
the S&P 500  .SPX  - the benchmark for the U.S. stock market -
has gained 28% in that time, fueled by huge gains for megacap
technology and growth stocks. 
    The S&P 500 banks index  .SPXBK , which includes major banks
such as JPMorgan Chase  JPM.N  and Wells Fargo  WFC.N , has
fared better, rising some 12% over the past year, though still
trailing the overall S&P 500.

    <^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^
US bank credit, commercial loans    https://reut.rs/42RGPh6
U.S. commercial & industrial loans    https://reut.rs/3woV80i
US commercial real estate lending    https://reut.rs/3wkajYw
Deposits at US banks - still shrinking, but by less    https://reut.rs/49oUkqS
Uninsured funds a shrinking share of all bank deposits    https://reut.rs/3UQFbKE
Heightened risk    https://reut.rs/48C8kfA
Net interest margins for US banks    https://tmsnrt.rs/3FoubuT
Regional bank shares vs the US stock market    https://reut.rs/3SZYhex
    ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>
 (Reporting by Ann Saphir in San Francisco, Saeed Azhar and
Lewis Krauskopf in New York; additional reporting by Saqib Iqbal
Ahmed and Niket Nishant in Bengaluru, editing by Lananh Nguyen,
Megan Davies and Nick Zieminski)
 ((Ann.Saphir@thomsonreuters.com; 312-593-8342;
www.twitter.com/annsaphir; Reuters Messaging:
ann.saphir.thomsonreuters.com@reuters.net))