By Kelvin Lee, Alonso Munoz
Congratulations to First Republic for being the third major U.S. Bank to fail this year, and the second largest to fail in U.S. history! Another victim of tight monetary policy and failed management, FRC was unable to survive one of the most hostile rate environments in decades. It’s a similar story to SVB’s collapse, however FRC was a better positioned bank, flush with mortgages and loans on its books. Leading up to the government taking over FRC in recent weeks, the bank was reporting positive net interest income and its outlook wasn’t so bad. The “big” 7 banks even pumped more than $30 billion into the now failed First Republic to help it weather the SVB fallout. Nowadays, a deposit flight will kill any bank, and the fact that FRC reported earnings showing 41% deposit outflows was the nail in its coffin. Many of the bank’s deposits were uninsured (which means nothing these days) and centered around a smaller high net worth customer base that were as quick to leave the bank as take the tempting low-rate jumbo mortgages (FRC offered their wealthiest clients mouthwatering interest rates and loan amounts for their mansions and lifestyles). So, interest rate risks are a real thing, but did we learn anything? In a slowing economy with elevated recession fears, bank failures and nervous depositors, the central bank, in their infinite wisdom, raised rates again by 25bps last Wednesday. This brought the fed funds rate to a 5.00 – 5.25% target.
Inflation is currently 5%. And yes, dual mandates, lagging effects of monetary policy, not making the same mistakes of the 1970’s, and all those considerations noted in the fed minutes are valid. But what about confidence in the banking system? The hike ‘til you break philosophy’ has happened, things broke! And yet, the committee keeps raising interest rates, deposits keep flowing into money market funds, and profitable regional banks are getting crushed.
Last Monday, the FDIC reported that it sold all of First Republic to J.P. Morgan over the weekend. JP Morgan is to assume all First Republic’s deposits and assets, and none of the regional bank’s corporate debt and preferred stock.
While the headline might not be striking at first, this is an interesting sale because it put the Big Banks and the FDIC into a classic show of brinkmanship. JPMorgan was opportunistic and waited to get a deal when the bank failed, versus buying First Republic as it looked for “strategic” solutions. And it was a pretty good deal. The bank paid roughly $182 billion for $186 billion in assets. While the FDIC takes a roughly $10 billion loss on this deal, all the depositors are still depositors, and the FDIC doesn’t need to write a check themselves. It’s a smart move on all parties that benefited JP Morgan, FDIC and existing FRC clients.
To contact the author of this story:
Kelvin Lee at kelvin@hamiltoncapllc.com
To contact the editor responsible for this story:
Alonso Munoz at alonso@hamiltoncapllc.com
