While much was made over the poor risk management at SVB that led to inexplicably unhedged long-bond positions, most lenders understand that years of debt securities and assets priced well under today’s yields lead to a somewhat illiquid “hold-to-maturity” position for too much of the portfolio.
Recent data shows the magnitude of the issue:
- Unrealized losses on investment securities for banks jumped to $517 billion in Q1/24. This is $39 billion higher than the $478 billion recorded in Q4/23.
- The surge was driven by higher residential mortgage-backed securities losses held by banks due to rising mortgage rates.
- Q1/24 also marked the 10th consecutive quarter of unrealized losses, an even longer streak than during the 2008 financial crisis.
- Keep in mind, transparency into the real HTM exposure of all investments and assets is often somewhat opaque.
- As “higher for longer” becomes the norm, unrealized losses are likely to continue rising.
Is the doomsday? Of course not. Despite the scary outcome of this singular measure if banks were to mark these assets to market, most banks are very well capitalized to ride out any scenario that doesn’t include panic. The offsetting liabilities to these assets (principally deposits) are quite strong across the system. With somewhere north of $17T in deposits across the system at a cost of around 3% (or lower) and Fed Funds at 5.5%, the banking system is also sitting on unrealized gains substantial enough to weather most any storm.
But that’s the “system”. Are ALL banks positioned well for this? Are ALL banks well capitalized enough to continue lending at levels that meet the market’s capital demands while the long, slow grind of “higher for longer” rate-driven HTM positions find their maturities? Markets work on credit and confidence and if your solvency is publicly challenged (i.e. Peter Thiel’s open concerns about SVB in part sparking a bank run), the strength of those deposits as offsetting liabilities is only as good as how sticky they are. And if they run, fast, trouble ensues.
As these issues create a void in the market’s capital needs, it might be time to seriously consider private credit or alternative capital providers for credit needs outside of the revolver.
