Analysis: US regional bank sell-off a cautionary sign of more pain to come

Signature Bank

02/02/2024 06:00

By Michelle Price and Lananh Nguyen
       WASHINGTON/NEW YORK, Feb 2 (Reuters) - Investors lulled
into thinking U.S. regional banks were out of the woods after
ruptures last year have been given a jolt by New York Community
Bank  NYCB.N .
    The under-the-radar lender's earnings report sparked a
sell-off in regional bank shares in a warning for investors that
had grown inured to the sector's sensitivity to high Federal
Reserve interest rates nearly a year after two banks failed.
    While NYCB's confluence of problems are unique to its
balance sheet, elements of its earnings underscored regional
lenders' ongoing sensitivity to high Fed rates which continue to
squeeze commercial real estate (CRE) portfolios and lending
margins, investors said. 
    That pressure will last longer than expected after the Fed
held rates steady on Wednesday, prompting traders to reprice the
first rate from March and into May, according to futures data. 
    "There still is an underlying business model problem that is
affecting a lot of regional and community banks in a higher rate
environment," Peter Orszag, chief executive of investment bank
Lazard, said in an interview with Reuters on Thursday. 
    "Those problems had exited crisis levels, but they were
still there," said Orszag, who previously served in the Obama
administration as director of the White House budget office.
    NYCB's stock has plummeted 45% in two days, while the
broader KBW Regional Banking Index  .KRX  has fallen more than
7% this week. 
    The sell-off comes nearly a year after Silicon Valley Bank's
March 2023 failure when high interest rates drove paper losses
on its bonds, sparking a fatal deposit run that felled Signature
Bank days later. 
    NYCB snapped up Signature Bank's assets, pushing its balance
sheet over a $100 billion regulatory threshold that triggers
strict capital and liquidity rules. That led the bank to slash
its dividend to retain cash.
    But NYCB also posted a $185 million loss after putting aside
cash to cover two soured loans on a cooperative and an office. 
    "That caused the Street to be more concerned about the
negative impacts for all banks," said Macrae Sykes, portfolio
manager for Gabelli Financial Services Opportunities ETF
 GABF.P , which holds several bank stocks. "You've a
continuation of both factors, a more hawkish Fed and worries
about commercial real estate impacting sentiment on banks."
    
    HIT TO PROFITABILITY
    The sell-off seemed to catch investors by surprise, with
traders holding bullish positions in options on the SPDR S&P
regional bank exchange traded fund  .KRE  ahead of Wednesday, 
Trade Alert data showed.
    Other banks with high CRE exposure according to data from
S&P Global Market Intelligence have also seen their shares hit,
including Valley National Bank  VLY.O  and East West Bank
 EWBC.N . The two banks did not immediately respond to requests
for comment outside business hours.
        NYCB's chief executive Thomas Cangemi said on an analyst
call that the co-op loan was a "one off," while the bank said in
its earnings release that allowing for losses strengthened its
credit profile. 
    "We believe as the market continues to appreciate the value
enhancing actions NYCB has taken the share price will recover,"
a NYCB spokesperson said in an email. 
    NYCB also reported a 16% decline in net interest income
(NII), the difference between what lenders earn on loans and pay
on deposits and a core driver of regional bank profits. NYCB
said it expects NII in 2024 between $2.8 billion and $2.9
billion, the midpoint of which is below the $2.88 billion
analysts expected, LSEG data shows. 
    While high rates have allowed banks to earn more on loans,
they have also had to pay more to retain deposits, squeezing
NII. NYCB's interest bearing deposit costs rose 29 basis points
quarter on quarter, according to JPMorgan analysts.
    Lower NII will contribute to "markedly lower profitability,"
for NYCB, Keefe, Bruyette & Woods analysts wrote. 
    Many other regional banks reported waning NII during
quarterly earnings, and analysts expect their profitability will
continue to be squeezed on rising deposit costs, Reuters
reported.
    Some investors, though, noted the CRE market is extremely
diverse, and that not all CRE exposure is created equal. Others
said many regional lenders have solid balance sheets and 
sufficient reserves to weather higher rates a little longer, and
that the sector will benefit from the U.S. economy avoiding a
recession. 
    "I think this is an opportunity to buy into select banks,"
said Tony Roth, chief investment officer at Wilmington Trust
Investment Advisors, which is owned by regional lender M&T Bank.
    "Certainly, I wouldn’t buy the index because there are some
regional banks that have more troubled assets than others within
the commercial sector, so I think one needs to be selective."

 (Writing by Michelle Price; reporting by Lananh Nguyen, Sinead
Carew, Laura Matthews, Davide Barbuscia, Medha Singh and Nupur
Anand; editing by Megan Davies and Sonali Paul)
 ((michelle.price@thomsonreuters.com; +12026041711; Twitter:
@michelleprice36))