Is the money safe?
Executive summary:
- In the event of any further stresses in banks, the U.S. government is very likely to raise the FDIC coverage limit for banks that fail
- A repeat of the 2008 financial crisis is very unlikely
- Regulators have made the necessary moves to keep issues in the global banking system idiosyncratic, rather than systemic
Are my deposits secure?
This is an understandable question I’ve fielded from countless concerned investors ever since the sudden demise of Silicon Valley Bank on March 10 and the collapse of Signature Bank two days later. Worries about the health of the overall banking system have led a to drawdown in deposits, with investors yanking nearly $100 billion in deposits from U.S. banks during the week that ended March 15.1 What’s more, there are fears that the stresses in the banking sector could be the start of the next financial crisis.
Before I get too far into the weeds, let me address these concerns by emphatically stating that:
- If you are with an FDIC insured bank and your account balances are below $250,000, your money is safe.
- If you have deposits in excess of $250,000, it is likely that the U.S. government will guarantee those deposits as well—as it has in the case of the three bank failures.
- A repeat of the 2008 financial crisis is highly unlikely.
Let’s dive in to the nitty gritty to understand why.
This is not the GFC on replay
To understand why today’s difficulties in the banking system are very unlikely to spark another global financial crisis (GFC), it’s helpful to understand what the factors were that caused the GFC in the first place. At the top of the list? Over-leveraged banks. Leading up to the 2008-09 crisis, most banks were highly leveraged—some to the tune of 30:1. Nowadays, balance sheet leverage is much more muted.
In addition, in the run-up to the GFC, highly leveraged balance sheets were invested in highly questionable mortgage-backed securities—some of which defaulted before they matured. Contrast that with today, when most of the assets owned by banks are invested in high-quality Treasuries and guaranteed agency securities that will almost certainly be worth their face value when they mature.
Rising rates always expose the most vulnerable participants
So, what led to the failure of Silicon Valley Bank, Signature Bank and Silvergate Bank, as well as the forced acquisition of Credit Suisse by UBS? One key factor was the aggressive tightening campaign among central banks that’s been underway for the past 12 months. In the U.S., for instance, the federal funds rate has risen from near zero in March 2022 to almost 5% in one year. That’s a massive increase in borrowing costs in such a short span of time—and tightening cycles of this magnitude almost always expose vulnerable market participants.
Take Silicon Valley Bank, for example. The California-based lender was uniquely vulnerable to rising rates due to its highly concentrated depository base of privately held companies—many in the under-pressure tech sphere—and its large bond portfolio, which was invested before the dramatic rate rises of the past year.
Overall bank failures are actually lower than normal compared to similar periods
Due to the sheer amount of banks around the world—by one estimate, there are over 40,000 banks and credit unions globally2—it’s not unusual for a bank to fail. The truth is that bank failures are a routine occurrence in the global banking system—in large part because not all banks are properly run. Case-in-point: Since 2001, 564 banks (mostly small) in the U.S. have failed. It’s worth pointing out that the number of bank collapses we’ve seen this year (three) is actually lower than in similar periods. In 2019, for instance, four U.S. banks failed.3 This year the banks that collapsed have been much larger than average, and with the current risk environment we can expect heightened market awareness of any bank failures. This, in large part, explains the heightened government response.
It’s also important to understand that these bank failures have been caused by a lack of liquidity, rather than a lack of solvency. Overall, the assets that the collapsed banks held were generally high quality. The problem was that in order to meet runs by depositors, these banks were forced to sell securities and realize losses. Those losses eroded their capital ratios, which in turn required them to raise capital. The announcement that these banks were going to raise capital caused more depositors to withdraw, leading to a snowball effect that resulted in bank closure.
The importance of the Fed’s new lending facility
From my vantage point, the March 12 announcement of the U.S. Federal Reserve (Fed)’s Bank Term Funding Program also goes a long way toward limiting systemic risk in the banking system—and securing investors’ assets. Essentially, the new facility allows banks to borrow the money they need to meet depositor withdrawals by putting their U.S. Treasury and agency bonds up at collateral at par value—meaning they avoid realizing the losses that would erode their capital ratios. I believe that this, in combination with raising the guarantee level for the banks that failed, should have the desired effect of slowing depositor withdrawals. In our view, this is the reason we have not seen broadening pressure on the U.S. banking system similar to what we saw with those three banks. Things have calmed down. Let’s hope this remains the case.
One caveat here: U.S. Treasury Secretary Janet Yellen doesn’t have the authority to change the $250,000 guarantee level for all banks. This can only be changed by Congress. I believe this is probably why Yellen has not come out and said she will raise the FDIC coverage limit for the industry as a whole. That said, the Treasury Department/FDIC/Fed can very likely raise this limit for any banks in receivership that come under intense market scrutiny, as they’ve already done for the recent bank failures. In addition, Fed Chair Jerome Powell’s remarks at the FOMC (Federal Open Market Committee) press conference, where he stated that “depositors should assume that their deposits are safe,” should give strong assurances to investors with deposits in excess of $250,000. Both of these are reasons why I emphatically believe investors can sleep safely at night.
Benefits of a total portfolio approach and knowing what you own
I would be remiss if I didn’t mention that times like these underscore the need for investors to have detailed, real-time knowledge of their portfolio holdings. After all, one of the most common (and very understandable) questions we received from clients as the banking crisis took hold was whether or not we had any exposure to any of the failed banks.
Thanks to the near real-time visibility we have in our portfolios, we knew the answer right away. Yet it’s critical to understand that this type of clarity is not easily achieved. In order to have such visibility, years of investment in data systems and analysis that inform portfolio managers on where their portfolios are positioned—down to the security-level detail—are required. A total-portfolio view that incorporates multi-dimensional risk exposures is also a must-have. At Russell Investments, we have both.
The bottom line
The current turmoil in the banking sector appears far from a replay of the Global Financial Crisis. That said, the Fed has tightened dramatically and as Milton Friedman famously said, monetary policy has a lagged and variable effect on the economy.
As a result of all of this, it’s best to expect more idiosyncratic bank issues. Ultimately, however, we believe that regulators have made the necessary moves to keep issues in the global banking system idiosyncratic, rather than systemic.
2 Source: https://www.extractable.com/insights/by-the-numbers-mega-banks-vs-community-banks/