Why First Republic might not be the last regional bank to fail
JPMorgan Chase bought most of the assets of First Republic Bank in a deal announced early Monday, just after the federal government seized control of the troubled regional bank.
First Republic is the second-largest bank failure in US history, following Washington Mutual which collapsed in 2008 and was also acquired by JPMorgan. It comes after the failure of Silicon Valley Bank (SVB) and Signature Bank in March, which were the third and fourth largest US banks to fail, respectively.
Like Signature Bank and Silicon Valley Bank before it, First Republic saw a mass exodus of depositors to larger institutions, who feared that the bank would not have the capital to cover huge unrealized losses on its books due to rising interest rates. If it’s a signal of a larger banking crisis, it seems to be one that’s unfolding slowly, but it’s certainly possible that more banks could fail.
The deal protects all of First Republic’s depositors, but JPMorgan will not take on any of the bank’s corporate debt or preferred stock, meaning that First Republic’s shareholders and debtholders will be wiped out, as is typical in a bank failure. First Republic branches opened Monday morning without any interruptions in service.
JPMorgan secured the deal — under which it will absorb First Republic’s approximately $173 billion in loans, $30 billion in securities, and $92 billion in deposits and receive $50 billion in financing — as part of an auction organized by the Federal Deposit Insurance Corporation (FDIC).
In return, JPMorgan will pay the FDIC $10.6 billion. It will also pay back $25 billion that major lenders had injected into First Republic in March in an effort to save the bank and calm nervous depositors amid fears of a banking crisis.
The deal is expected to “modestly” benefit JPMorgan’s stockholders and its net income, the bank said in a statement. “Our government invited us and others to step up, and we did,” Jamie Dimon, chairman and CEO of JPMorgan Chase, said in a statement. “Our financial strength, capabilities and business model allowed us to develop a bid to execute the transaction in a way to minimize costs to the Deposit Insurance Fund.”
What happened to First Republic Bank?
First Republic has been teetering on the edge of collapse for months. Even before the March $30 billion cash injection, JPMorgan had extended the bank a $70 billion line of credit — together amounting to two major bailouts.
There were hopes that First Republic’s stock would rally, but last week, the bank released a report showing that its total deposits dropped 41 percent in the first quarter to $104.5 billion, falling far short of analyst projections of $136.7 billion. That sent its stock price tumbling, closing at $3.51 on Friday and down about 97 percent this year.
It’s one of several mid-sized banks, also including SVB and Signature Bank, whose assets have lost billions in value due to rising interest rates. That’s left depositors skittish and worried that their money isn’t safe, leading them to withdraw their funds and take them to larger institutions better equipped to weather the storm. (Disclosure: Vox Media, which owns Vox, banked with SVB before its closure.)
The Fed has used several tools to staunch the bleeding. It has provided more frequent access to swap operations for foreign banks, essentially providing more US dollar funding to improve liquidity. It is lending to banks at record levels through a program called the “discount window.” (The Fed says it’s never lost a cent to banks on the program.) And on top of that, it has launched a program to help banks get easy access to up to one-year loans, which has proved a “big stabilizing force,” said Mark J. Flannery, a finance professor at the University of Florida and former chief economist at the US Securities and Exchange Commission.
The fact that the government has stepped in to protect uninsured deposits — or those above the $250,000 FDIC limit — amid recent bank failures is also “minimizing the impact on affected banks of deposit outflows,” he said.
Overall, the Fed has reacted aggressively to restore confidence in the banking system — so much so that there are worries that it’s gone too far too quickly and raised the threat of moral hazard, encouraging financial risk-taking. “This will certainly have long-term implications on how risks are perceived. This will play out for longer and I don’t know if there will ever be a ‘vindication’” of the Fed’s strategy, said Itamar Drechsler, a finance professor at the University of Pennsylvania’s Wharton School.
But the Fed’s actions still didn’t prove enough to save First Republic.
Could more banks fail?
The big question is to what extent First Republic’s failure signals broader systemic risk. While it seems unlikely that there will be a banking crisis on the scale of 2008, there is a real possibility of further failures among mid-sized banks with similar vulnerabilities.
“There are certainly more banks exposed to this kind of fragility, and we might see more failures. The fact that things have quieted down for a while is a positive indication that maybe we won’t have a full-blown systemic event, but we are not out of the woods,” Drechsler said.
Regulators have acted in First Republic’s case to assure that its failure “would not cause contagious runs at other banks” and its business was “pretty self-contained,” meaning that it’s unlikely to set off a chain reaction at other banks, Flannery said.
While other mid-sized banks may look healthy, however, many have recently suffered major unrealized losses — including on investments in Treasurys and mortgage bonds — since the Fed started hiking interest rates to combat inflation. Those losses are “large enough… to threaten their solvency,” he said. “It therefore remains possible that the public’s recognition of these losses will spur solvency-threatening runs at other banks.”
Source: Vox.com
