In the Spring of 2023, the U.S. banking sector faced a period of uncertainty and volatility, triggering concerns about its stability. However, thanks to the swift and resolute actions taken by key institutions and some of the largest U.S. banks, coupled with recent positive developments among regional lenders, it is now increasingly clear that the banking turmoil has subsided.

The good news for investors is that while banking stocks may have been battered, the resilience shown by the U.S. banking sector suggests that the worst is behind us and that the time may be right to pick up some bargains in an undervalued sector.

U.S. banking sector demonstrates its resilience

Ironically, the actions taken by the banking industry itself in the face of the recent crisis show the sector’s resilience. Through coordinated action (in conjunction with the U.S. Treasury and the Federal Reserve) U.S. banks moved swiftly to shore up struggling banks and prevent a full-blown crisis like that of 2008.

By providing $100 billion in emergency funding to rescue First Republic Bank, major U.S. lenders, including JPMorgan Chase, Citigroup, Bank of America Corp, Wells Fargo, Goldman Sachs, and Morgan Stanley, showed that the situation in 2023 was significantly different from the crisis of 2008. In this latest crisis, U.S. banks showed themselves to be far better capitalized than during the Great Recession, with easier access to funds that allowed them to prevent a domino effect of regional bank collapses that could have rippled out into the larger financial industry.¹

Likewise, the quick sale of the deposits, assets, and liabilities of the defunct Silicon Valley Bank (SVB) through the Federal Deposit Insurance Corporation (FDIC) to First Citizens Bank further demonstrated the durability and resilience of the sector.

In their Q1 earnings report, First Citizens highlighted the acquisition of SVB as having added significant scale and strength to their existing business. For the year, First Citizens shares have added approximately 44.2% so far in 2023 versus the overall S&P 500’s gain of 7.3%.²

Is banking turmoil really behind us?

Despite the resilience shown by the sector to date, it’s a question worth asking: how do we know that the worst is over for U.S. banks? For reassurance, we can look not only to statements from the Federal Reserve and the U.S. Treasury but also to positive developments among regional lenders that suggest the instability from earlier this year has abated.

In May, Federal Reserve Chairman Jerome Powell emphasized the soundness and resilience of the U.S. financial system, providing a much-needed vote of confidence. He acknowledged that the initial stress in March centred around SVB, Signature Bank, and First Republic but indicated that each bank had successfully resolved their issues while safeguarding their depositors’ interests.³

This assurance from Powell was echoed by other experts such U.S. Treasury Secretary Janet Yellen, who credited the “decisive and forceful” actions taken by large U.S. lenders to shore up smaller regional banks for demonstrating that the U.S. banking sector is on a stable footing.⁴

In addition, we can look to recent positive developments among these regional lenders for additional evidence that the worst is behind us.

Early in May, initial fears of a renewed crisis emerged when PacWest Bank, a regional bank based in Los Angeles, began exploring strategic options due to shareholder flight and reported losses. The announcement led to a sharp decline in stocks of other regional lenders, intensifying fears of contagion among small to mid-sized banks. However, the situation quickly turned around when PacWest Bancorp proactively sought to boost its liquidity by selling real estate construction loans worth $2.6 billion.⁵ Additionally, PacWest announced in June that to further boost liquidity, it was selling a $3.54 billion lender finance loan portfolio to Ares Management, as asset management firm.⁶

Likewise, Western Alliance Bank, a regional lender based in Phoenix, announced substantial deposit growth of over $2 billion, indicating a significant turnaround for the company and easing investor concerns after rumours of a potential sale.⁷ These developments, together with other positive indicators, helped restore confidence in the regional banking sector, signalling a turning point in the U.S. banking crisis.

 What happens to U.S. banks if we enter a recession?

By late March, the Fed was so confident that the U.S. banking system was “sound and resilient” that, despite any remaining uncertainty, it felt able to proceed with another in its series of recent rate hikes.⁸

The risk posed by rate hikes, of course, is that any increase could put undue stress on the banking system, tightening credit and tipping the economy over into full-on recession—one long expected for later in 2023.⁹

So, what happens to U.S. banks if a recession arrives?

The good news is that post 2008, changes to financial sector regulations mean that (as mentioned earlier) banks must now hold much more capital—four times as much as before the Great Recession. Banks must also have greater liquidity and rely less on shorter-term funding so that in the event of a true crisis, the Fed and the Treasury will have enough time to organize relief in a severe liquidity crisis.¹⁰ So it is unlikely we would see widespread turmoil in the sector.

However, should the worst happen, and banks did begin to collapse, as we saw with the events this past Spring, deposits kept in a bank account (during a recession or not) are protected through the Federal Deposit Insurance Corporation (FDIC). Up to $250,000 is protected in individual bank accounts and $500,000 insured in joint accounts.¹¹

Is now a buying opportunity for U.S. bank stocks?

The good news for potential investors is that bank stocks have been going strong so far in 2023. In fact, U.S. banks have outperformed the S&P 500 for over a year, thanks especially to rising rates. In such an environment, high interest rates increase the profits banks make on their loans.¹²

Moreover, the crisis earlier this year triggered a sector-wide sell-off despite some banks (particularly large ones) being fundamentally sound. That means that some bank stocks may be undervalued relative to the underlying strength and liquidity of their institutions overall, making for an excellent opportunity to pick up bargains.¹³

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Sources

1. Schroeder, P., Prentice., C., & Anand, N., “Major US banks inject $30 billion to rescue First Republic Bank,” Reuters, March 16, 2023; https://www.reuters.com/business/finance/credit-suisse-borrow-up-54-bln-it-seeks-calm-investor-fears-2023-03-16/
2. “First Citizens BancShares (FCNCA) Misses Q1 Earnings Estimates,” Yahoo Life, May 10, 2023; https://ca.style.yahoo.com/first-citizens-bancshares-fcnca-misses-114511530.html

3. Evers-Hillstrom, K., “Fed chief says banking system is ‘sound and resilient’ after failures,” The Hill, May 3, 2023; https://thehill.com/business/banking-financial-institutions/3986213-fed-chief-says-banking-system-is-sound-and-resilient-after-failures/
4. Schroeder, P., Prentice., C., & Anand, N., “Major US banks inject $30 billion to rescue First Republic Bank,” Reuters, March 16, 2023; https://www.reuters.com/business/finance/credit-suisse-borrow-up-54-bln-it-seeks-calm-investor-fears-2023-03-16/
5. Singh, M. & Chibuike, O., “PacWest stock plunges as US regional banking woes worsen,” Reuters, May 4, 2023; https://www.reuters.com/markets/us/pacwest-western-alliance-hit-us-banking-concerns-widen-2023-05-04/
6. “PacWest sells $3.5 bln loan portfolio to asset management firm Ares,” Reuters, June 26, 2023; https://www.reuters.com/markets/deals/ares-acquires-35-bln-loan-portfolio-pacwest-2023-06-26/
7. Nishant, N. & Chibuike, O., “US regional bank shares rally after Western Alliance reports deposit growth,” Financial Post, May 17, 2023; https://financialpost.com/pmn/business-pmn/us-regional-bank-shares-rally-after-western-alliance-reports-deposits-growth
8. Siegel, R., “Federal Reserve raises benchmark rate by 0.25 point despite bank turmoil,” The Washington Post, March 22, 2023; https://www.washingtonpost.com/business/2023/03/22/fed-rate-hike-svb/
9. Shah, J., “Behind the Banking Crisis, an Era of Easy Money’s End: QuickTake,” The Washington Post, March 19, 2023; https://www.washingtonpost.com/business/2023/03/19/the-era-of-easy-money-is-over-what-does-that-change-quicktake/
10. Elliott, D., “Banks and the Next Recession,” Oliver Wyman, 2019; https://www.oliverwyman.com/content/dam/oliver-wyman/v2/publications/2019/may/Banks%20and%20the%20Next%20Recession.pdf
11. Acevedo, S., “How to know if you should keep your money in a bank if you’re worried about a recession,” Business Insider, March 10, 2023; https://www.businessinsider.com/personal-finance/is-money-safe-in-bank-during-recession
12. Schmidt, D., “Are Bank Stocks a Good Buy Right Now?,” MarketBeat, May 17, 2023; https://www.marketbeat.com/originals/are-bank-stocks-a-good-buy-right-now/
13. Berkowitz, B., “3 Top Bank Stocks to Buy in June,” The Motley Fool, June 3, 2023; https://www.fool.com/investing/2023/06/03/top-bank-stocks-to-buy-in-june/

 

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