US bank chaos: fear drives rational thought from markets

The shareholders of First Republic Bank, a former industrial thrift, are routing no lesser institutions than the Federal Reserve and JPMorgan Chase.

On Sunday night, amid the collapse of Silicon Valley Bank and Signature Bank, the Fed and the House of Dimon stepped in. They said they would contribute $70bn of enhanced backstop liquidity to First Republic, which has $200bn in assets.

The aim was to protect depositors and shareholders. Ideally, it would mean that authorities could avoid seizing the bank and guaranteeing all deposits immediately, as occurred with SVB and Signature. First Republic told stakeholders its capital and liquidity positions were strong.

The gambit failed. The shares collapsed 65 per cent on Monday over worries that depositors would run off with their cash. Stock in regional banks including PacWest, Western Alliance Bank and even brand-name broker Charles Schwab all suffered similar sell-offs.

This cascading anxiety might seem wholly irrational. Banks typically fail because their loan books are weak or their balance sheets are overrun with complex assets. The triggering event at SVB was a straightforward $2bn capital raise to cover paper losses from a bond portfolio invested in municipal and agency debt.

Central bank tightening combined with the vagaries of mechanical bond arithmetic meant those losses had to be recorded. Otherwise, SVB’s liquidity and capital ratios remained sound.

But fear can easily chase rational thought from the markets.

If perfect co-ordination among dispersed stakeholders were possible, skittish depositors would grasp that they should leave their cash in place. The backing of both the Fed and JPMorgan should have given worriers pause for thought.

Basic capitalism might hold, too. For centuries, scavengers have minted fortunes buying up financial institutions where fair asset values far exceeded deposits plus added liabilities, but when dislocations have created a temporary mismatch. HSBC is making this wager with its bargain purchase of the UK arm of SVB.

Yet executing such rescues fast is apparently harder in the US under the glare of regulatory and political scrutiny. The only remaining mechanism before full bailouts are partial and ineffectual votes of confidence from financial giants that engender further panic.