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More On Banks & Bank Failures

David R. Kotok
Sun May 14, 2023

When we’re all done, things boil down to this: There are three types of banks.

  1. The first are those deemed too big to fail. These are technically referred to as the GSIBs (globally systemically important banks). In the US there are eight GSIBs: Bank of America Corporation, The Bank of New York Mellon Corporation, Citigroup Inc., The Goldman Sachs Group, Inc., JPMorgan Chase & Co., Morgan Stanley, State Street Corporation, and Wells Fargo & Company (
  2. The next group comprises banks small enough to fail because they are not systemically risky. This category is a big problem for some regulatory folks but small in macroeconomic terms. Small and community banks service independent businesses, and some of them specialize in agriculture. So, they may not be systemically risky in a national macro sense, but they are very important in rural America and in the half of the economy that doesn’t trade on the stock exchanges. Somewhere between 30% and 40% of the banking needs of small and independent businesses are met by these “small” banks.
  3. The third category is those banks in the middle. They are regional or they fall into a category of between $50 billion and $250 billion in size. They are large enough to make the list for watchful scrutiny (the official list was changed by Congress in 2018) and small enough not to meet the definition of too big to fail ($250 billion). SVB and Signature are examples of that vaguely defined middle category.

In such an environment, the general words of support about bank safety coming from officials lack credibility. Reason: the officials cannot be specific. Their present legal structure in the US doesn’t let them be specific. The decisions to declare a mid-sized bank as systemically risky and thus deserving of full depositor insurance coverage require the FDIC, the Fed Board of Governors, and the US Treasury to concur in a sequence of actions. I call this the resolution trifecta.



The trifecta cannot tell us what it will do tomorrow. It is dealing with a lack of specific rules. The board members and staffs of these institutions know that. They have been dealt these cards by Congress, and it will take Congress to change the rules. And the current situation in the Congress is best described as awful, in my opinion. Thus, expectations about what Congress will do and when it will do it are entirely speculative. We will be writing more in the future about how the Federal Reserve is critical to maintaining financial stability and how they have intervened to do so with success which staved off a contagion.
Here’s our outlook.
America has about 4700 banks and savings institutions, or one for every 71,000 residents, according to the Economist (“Why America will soon see a wave of bank mergers,” This is about ¼ of the number of institutions that existed 40 years ago. Every banking crisis has triggered a wave of mergers. Some mergers are voluntary; others are forced by regulators. In any case, mergers happen, and the number of banks continues to shrink.
We think that is about to happen again. Market forces and regulators will operate together to drive these mergers. Each transaction will be idiosyncratic, but the total number of institutions will shrink again. Fewer and larger is what lies ahead. Remember, if a regulator can combine a troubled institution with a stronger one, the regulator doesn’t have to experience a bank failure with the weaker partner.
The closing of the Economist editorial on banks published on April 22 is instructive and a harbinger of what we face tomorrow:

At the end of 2022 more than 400 banks with nearly $4trn in combined assets had unrealized losses on their securities portfolios worth at least half of their core equity capital. Include their fixed-rate loan books, and the possible losses to come on lending against commercial property, and the hole would be greater still.

“The hole would be greater still.”
Note that since we started drafting this commentary, there are now reports of a list of 722 troubled banks. The reports quote a “leaked” internal Fed report. We have not seen this independently verified and have no way to know if the report circulating on the internet is valid, redacted, or fake. Frankly, it really makes no difference if there are 400 troubled banks or 700 troubled banks. The mass is large in either case.
Every regulator in every jurisdiction is now keenly focused on the banks it oversees. Those banks represent risk evaluated institutions, since depositors don’t know where they stand in a bank run or bank failure. Those banks are also now in a bind when it comes to dealing with the regular customers who borrow from them and who use their services like letters of credit, credit lines, or sweep clearing of cash. This uncertainty results in a contraction of lending, stricter loan standards, increased costs to customers, and more stringent bank operations. An intensification of oversight and a tightening of lending have happened in every previous cycle, and they are happening again today.
In our US Equity ETF portfolio, we are underweighting the banking sector; and that include small banks, regional banks, and large banks. In our view, all banks face tougher conditions, higher FDIC fees, and more lending scrutiny from regulators. There may come a time after the “shakeout” period when we will again be overweight banks. But we’re not there yet.
For clients in our managed accounts, we have taken steps to implement universal coverage of deposits with some type of US government guarantee. We use various methods to do that. But the bottom line of all of them is that you give up some current yield in return for the safety of the government guarantee, whether directly or indirectly.
The one item that haunts us is the debt ceiling political fight. Here’s why.
The fallback position of the FDIC when it confronts the need for cash to resolve failed banks is to draw on a $100 billion credit line at the US Treasury. Note that it will take Congress to enlarge that line. Normally, use of that credit line would be a simple transaction. This occurs if the FDIC Deposit Insurance Fund is being used up for resolution of failed banks faster than it is being replenished with fee income. But what if the Treasury has no more borrowing capacity because of the debt-ceiling machinations of the Congress. Where does the US Treasury get the money? It takes it from someone else. The US Treasury always has some cash; the question is who gets paid first if the Treasury is prevented from borrowing in the marketplace because of Congress. There is a provision that allows the Federal Reserve to lend directly to the FDIC when it is a receiver and has seized a bank. We will discuss that in more detail in a future commentary. That provision is being used now in the aftermath of the SVB debacle.
So, truth be told, Congress is the risk — to your bank deposit, to your business, to your personal assets.
If the United States ends up defaulting on a payment for even one day and even for one dollar, we citizens must unify and throw out all the culprits — Democrat and Republican — whether we like the individuals or not. Until the nation says “enough is enough,” we will continue to have this debt ceiling charade, and we will continue to have this pernicious and destructive, politically induced risk premium in our finances.
As of today, in our US Equity ETF portfolios, we’re underweight banks. That could change at any time.
Here’s the link to the full Federal Reserve report on the Silicon Valley Bank affair. For serious investors who are considering the banking sector, this full report is essential reading.
“Re: Review of the Federal Reserve’s Supervision and Regulation of Silicon Valley Bank,”
The report includes this trenchant remark about SVB:

In 2019, following the passage of EGRRCPA, the Federal Reserve revised its framework for supervision and regulation, maintaining the enhanced prudential standards (EPS) applicable to the eight global systemically important banks, known as G-SIBs, but tailoring requirements for other large banks. For Silicon Valley Bank, this resulted in lower supervisory and regulatory requirements, including lower capital and liquidity requirements. While higher supervisory and regulatory requirements may not have prevented the firm’s failure, they would likely have bolstered the resilience of Silicon Valley Bank.

There is now an important second report on the failure of SVB. For additional information we recommend the GAO report as well as the Federal Reserve report. Here’s the link:
“Bank Regulation: Preliminary Review of Agency Actions Related to March 2023 Bank Failures,”
Here’s an excerpt from a Bank Policy Institute commentary on the GAO report:

The GAO report examines (1) bank-specific factors that contributed to the failures, (2) supervisory actions regulators took leading up to the failures, (3) the basis for the systemic risk determinations Treasury made, and (4) factors the Federal Reserve and Treasury considered to establish and provide credit protection for the Bank Term Funding Program and the use of the program to date.

(“What’s in the Recent SVB Reports?” Email to subscribers. Much of the same content is available online here:


Last, we offer readers the link to the FDIC report on Signature Bank:


David R. Kotok
Chairman & Chief Investment Officer
Email | Bio


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