AFR's Banking Crisis of '23 Brief: 20th Edition

A cogent email of curated information on the banking crisis and the response

Short Selling Sparks Debate. 

Short sellers have profited $7bn this year betting against regional banks in the throes of the crisis, pocketing as much as $1.2bn in just the first two days of May. The practice has come under intense scrutiny as stress on banks mounted. Calls are coming in for a temporary ban, but some aren’t so sure that’s the solution. 

• Short-selling is hitting confidence in midsize banks hard. PacWest and Western Alliance stock plummeted last week – a boon to short sellers – even after they insisted their depositor bases were sound. Western Alliance implicates them in a statement, which also denies an FT article that suggested it was seeking a sale. Last Thursday, short sellers walked away with nearly $380mn in profits against the two banks and a third, First Horizon.
  
  Worth noting, however: Share values at PacWest, Western Alliance and other regional banks saw an upturn Monday. And insiders are scooping up shares too, a possible sign of executive confidence.

• ABA wants an SEC probe into the matter, citing “abusive trading practices.” Nichols’ letter to Gensler here. The Consumer Bankers Association likewise called out short selling as “unethical behavior…fueling anxiety and distrust.”
  

• Messaging from the hedge fund lobby – the Managed Funds Association – claims a temporary ban on short-selling would harm the economy. MFA’s letter to Gensler here.
  

• The White House indicates they’re keeping an eye on the situation, but that it remains up to the SEC. Gensler has previously stated that his agency would focus on market stability and misconduct in the early days of the crisis. Within the past week, however, an SEC official said any short-selling ban is “not something the commission is currently contemplating.”
  

• American Banker examines whether short-selling is “a symptom of a bigger problem,” namely a broader reassessment of regional bank profitability.
  

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Bank Troubles – Deposit Insurance – SVB Investigations – Banking Regulation – Commercial Real Estate – Climate Change – Banks and Race

Feedback? Reach us at afrbrief@ourfinancialsecurity.org

Bank Troubles.

NYT explores how the turbulence is strengthening shadow banks, which are drawing in consumers and institutions with private credit and loans. But they generate new risks, notes AFR’s Andrew Park: “They will say, ‘we have a good control on our risk,’ but you generate these returns somehow — these higher returns… There is no free lunch on that.”  

An op-ed in Bloomberg puts PacWest under the microscope. Basically, the midsize bank has problems (profitability, the need to adapt amid a pinch on lending margins) that may cause it to spiral, but not the same problems as SVB (an undiverse bulk of uninsured depositors, long-term assets threatened by interest rates).

Richard Bookstaber presents charts highlighting the next areas of concern for this chapter of the crisis. He concludes that it won’t be as bad as 2008, but that commercial real estate and small business will fare badly. He writes: 

“…This banking crisis is like a flesh wound. A wound that might get infected, so ongoing risk, but what happened in 2008 was like a stroke, blood cut off the the core of the financial system. Short-term funding, repo and the like, is the lifeblood of the financial system. And that is what was at stake.”

Toronto-Dominion Bank was slated to buy the ailing First Horizon, but the OCC’s and Fed’s concern over TD’s anti-money-laundering practices marooned the deal. 

NYT Dealbook details another risk in regulators’ eyes: clearinghouse liquidity. Their potential solution: allow more clearinghouses to leave cash at the Fed. 

The Fed released the results of its bank lending survey on Monday. To summarize: loans to households and businesses, including commercial real estate, both saw tightened standards and lower demand.

Deposit Insurance.

The FDIC is expected to release a proposal to regenerate the deposit insurance fund that may exempt smaller banks. The plan would target banks based on the size of their deposit portfolio, putting more of the onus on bigger banks while shielding banks with <$10bn, and even as much as $50bn in assets. A special assessment paid out over two years would replenish the $19.2bn hole.

SVB Investigations.

Multiple governmental bodies are probing Goldman Sachs for its work with SVB, examining its role in the events that led to the bank’s collapse. Earlier this year, Goldman bankers advised SVB to sell off a $21bn portfolio of U.S. bonds, rocked by rising interest rates, at a $1.8bn loss. Then, they served as underwriters on an attempted sale of SVB stock. 

Related: last week, Goldman Sachs and other underwriters were hit with a class-action lawsuit alleging misstatements and omissions in SVB share offerings in 2021 and 2022. 

Meanwhile, the California Department of Financial Protection released a report examining SVB’s collapse. The document suggests that regulators overlooked the red flags, reports Politico. 

Banking Regulation.

CFPB Director Chopra advises regulators like the Fed and FDIC to consider unwinding banks that submit faulty resolution plans, whether that means they’re unreliable or that their execution would threaten financial stability. 

A Bank Director article reviews the big lessons learned from the crisis, relating to interest rate risk, liquidity risk and the nature of the failed banks’ growth. Says Peter Conti-Brown:

“I lose count of the number of cognitive biases that got activated in their process — from confirmation bias and optimism bias to so much else … It is the most common story ever told: When you make big goals, you then try to rough up the ref so that you can get the outcomes you’re seeking. The ref in this case is basic bank accounting.”

And the run on SVB and Credit Suisse both raised questions about whether current regulations are enough. A VoxEU column says no.

Commercial Real Estate.

Politico reports on the $1.5tn in mortgages that will come due in the next two years in an environment marked by high interest rates and low property values. 70% of bank-held commercial mortgages are in the hands of smaller lenders, indicating that a “write-down in commercial loans” may spell trouble with broad spillover. 

Climate Change.

Commodity Futures Trading Commission Chair Rostin Behnam is taking on climate change, reports Politico. Under consideration: policies related to trading carbon offsets, which the CFTC can’t directly regulate. But it can watch for fraud and manipulation. 

“If we can send a signal through some sort of regulatory action to the underlying market participants that this is what we expect in order for our markets to not be readily susceptible to fraud or manipulation, that will in theory raise the bar of how they conduct themselves and what rules they require of their market participants,” he said.

Banks and Race.

An interesting Twitter thread from journalist Stephen Henderson catches up with the racial equity investments that big banks promised years ago. NYT journo Emily Flitter says the money, like JPMorgan’s, actually went back into their own business instead.