Currency austerity continues to rock the US banking industry, with short sellers the main beneficiaries of the collapse in regional bank prices since March.
There was a return of tensions last week, with the bankruptcy of First Republic Bank, taken over by JPMorgan, followed by the erosion of 50% in a single session Thursday in the price of the action of Californian PacWest. The regional bank had issued a statement the previous night indicating that it was examining the sale of strategic assets only to hasten to add that it was not facing “exceptional movements” from depositors.
On this side of the border, TD announced that it was abandoning the acquisition of the American bank First Horizon, citing the uncertainty surrounding obtaining the required regulatory approvals and when they might be obtained. The announcement instantly slashed 33.6% from the value of the coveted stock for which TD was willing to shell out US$13.4 billion before the US banking sector’s disappointment echoed the collapse of Silicon Valley Bank and of Signature Bank in March. Then the forced takeover of Credit Suisse, which had been wavering for more than a year.
Shortly before, HSBC Holdings issued a statement in which it was mentioned that the sale of its Canadian division HSBC Bank Canada to Royal Bank would take longer than expected, but that the agreement remained a key priority. She attributed this delay to a context of increased banking supervision.
Increased monetary tightening
In a speech to members of the Greater Toronto Board of Trade on Thursday, Bank of Canada Governor Tiff Macklem mentioned that these recent strains in the international banking sector have had little impact here in Canada. He added, however, that if they were to get worse, they could trigger a global recession that would hit the country — especially given the high level of household debt.
The financial stress will have the effect of accentuating the impact of already aggressive monetary tightening and the deterioration in credit conditions and the cost of credit. This essentially means that obtaining loans becomes more difficult and more expensive”, which magnifies the effect produced by the muscular rise in the key rate, itself amplified by the end of quantitative monetary easing.
The day before, however, we could deduce from the remarks of the President of the American Federal Reserve that the banking crisis also provides unexpected support in the fight against inflation. By ordering a further 25 basis point increase in its key rate, the Monetary Committee stressed in particular that “the tightening of credit conditions for households and companies is likely to weigh on economic activity, hiring and inflation,” the statement read. While taking care to add that “the American banking system is solid and resilient”.
And many analysts have not been without underlining the speculative effect of short selling, which swells the crisis and accelerates the fall in the stock market prices of bank securities. On Wall Street, the S&P 500 banking index has fallen more than 20% since March. The tumble is obviously more felt in the sub-index of regional banks, which has been close to 50% since March. In Canada, the decline in the S&P/TSX banking index has been hovering around 10% since February’s peak.
197 episodes of bank failure
Looking ahead, Oxford Economics has observed 197 episodes of bank failure since 1870, and the research firm concludes that the current phase of stress on the US banking system will likely be contained. “The current magnitude [de la correction boursière] does not reach the level for there to be a felt impact on GDP,” writes the firm. In fact, for there to be any noticeable material impact, the fall in bank capitalization would need to be at least twice as large as the current contraction.
However, an escalation of tensions cannot be ruled out and would not be historically unusual. In about 20% of bank failure episodes observed over the past 150 years or so, the price plunge has been as steep as that measured during the 2008 financial crisis. (From February 2007 to March 2009, the S&P Banking Index 500 fell 88%.) During this crisis, the implosion of the banks Washington Mutual, Lehman Brothers and Bear Stearns was followed by a cascade of bankruptcies in the American banking system. From 2008 to 2015, more than 500 government-insured banks failed, the report reported. New York Times.
And 30% of episodes had an impact of around 3% of GDP. “When the fall in prices remains below 30%, the impact on GDP is around 0.4%, on average, over the first five years”, writes Oxford.
But the firm also recalls that today, central banks and regulatory authorities have mechanisms and prudential practices that reduce the possibility of a severe banking crisis.
Regional banks remain under pressure, but the event of the last two weeks is still borrowing at idiosyncratic risk, summarized Oxford in March. Here we mean a specific risk that concerns a particular company or institution (or even an industry), as opposed to a systemic risk.