Why First Republic may not be the last regional bank to fail

JPMorgan Chase bought most of First Republic Bank’s assets in a deal it announced early Monday, right after the federal government took control of the ailing regional bank.

The First Republic is the second largest banking failure in US history, after Washington Mutual which collapsed in 2008 and was also taken over by JPMorgan. It follows the March failures of Silicon Valley Bank (SVB) and Signature Bank, which were the third and fourth largest US bank to fail, respectively.

Like Signature Bank and Silicon Valley Bank before it, First Republic saw an exodus of depositors to larger institutions, who feared the bank wouldn’t have the capital to cover huge unrealized losses on its books due to rising interest rates. If this is a sign of a larger banking crisis, it appears to be one that is slowly unfolding, but it is certainly possible that more banks could fail.

The deal protects all First Republic depositors, but JPMorgan will not assume any of the company’s debt or preference equity for the bank, which means First Republic shareholders and debt holders will be wiped out, as is typical of bank failures. First Republic branches opened today, Monday morning, without any interruption in service.

JPMorgan secured the deal — under which it will absorb First Republic’s $173 billion in loans, $30 billion in securities, $92 billion in deposits and receive $50 billion in financing — as part of an auction organized by the Federal Deposit Insurance Corporation (FDIC). .

In return, JPMorgan will pay FDIC $10.6 billion. It will also return $25 billion that major banks pumped into the First Republic in March in an effort to save the bank and calm nervous depositors amid fears of a banking crisis.

The bank said in a statement that the transaction is expected to benefit “modestly” JPMorgan shareholders and its net income. “Our government and others have called on us to step up, and we have done so,” Jamie Dimon, Chairman and CEO of JPMorgan Chase, said in a statement. “Our financial strength, capabilities and business model allowed us to develop a bid to carry out the transaction in such a way as to reduce the costs of the Deposit Insurance Fund.”

What happened to the First Republic Bank?

The First Republic has been teetering on the brink of collapse for months. Even before March’s $30 billion cash infusion, JPMorgan had extended the bank’s $70 billion line of credit — totaling two major bailouts.

There were hopes that First Republic stock would rise, but last week, the bank released a report showing its total deposits fell 41 percent in the first quarter to $104.5 billion, well short of analysts’ expectations of $136.7 billion. That sent its share price down, closing at $3.51 on Friday and down about 97 percent this year.

It is one of many mid-sized banks, also including SVB and Signature Bank, whose assets have lost billions in value due to rising interest rates. This left depositors jittery and worried that their funds were not safe, leading them to withdraw their funds and move them to larger institutions better equipped to weather the storm. (Disclosure: Vox Media, which owns Vox, did business with SVB before it closed.)

The Fed used several tools to stop the bleeding. It provided more frequent access to foreign bank swaps, essentially providing more US dollar funding to improve liquidity. It is lending to banks at record levels through a program called the “Discount Window”. (The Fed says it never lost a cent to banks in the program.) Moreover, it launched a program to help banks easily obtain loans of up to one year, which has proven to be “a great stabilizing force,” said Mark J. Flannery, professor of finance at the University of Florida and former chief economist for the US Securities and Exchange Commission.

He said the fact that the government has stepped in to protect uninsured deposits — or those over the $250,000 FDIC limit — amid recent bank failures “minimizes the impact on affected banks of deposit outflows.”

Overall, the Fed has reacted aggressively to restore confidence in the banking system — so much so that there are concerns that it went too far too quickly, raising the risk of moral hazard, which encouraged financial risk-taking. This will certainly have long-term ramifications for how risk is perceived. This will continue for much longer and I don’t know if there will be a “justification” for the Fed’s strategy, said Itamar Drechsler, a professor of finance at the Wharton School of the University of Pennsylvania.

But the Fed’s actions are still not enough to save the First Republic.

Could more banks fail?

The big question is how far the First Republic’s failure points to broader systemic risks. While it seems unlikely that there will be a banking crisis on the scale of 2008, there is a real possibility of more failures among medium-sized banks with similar vulnerabilities.

There are certainly more banks exposed to this kind of fragility, and we may see more failures. “The fact that things have calmed down for a while is a positive sign that we probably won’t have an all-out event, but we’re not out of the woods,” Drechsler said.

Flannery said regulators acted on the First Republic case to ensure its failure “wouldn’t cause an infectious run-off at other banks” and that its business was “fairly self-contained,” meaning it was unlikely to trigger a chain reaction at other banks.

While other mid-sized banks may appear to be in good shape, many of them have recently suffered large unrealized losses — including investments in Treasury and mortgage securities — since the Fed began raising interest rates to combat inflation. He said these losses were “large enough … to threaten its solvency”. “Therefore, it remains possible that public recognition of these losses will stimulate operations that threaten the solvency of other banks.”

Leave a Comment

Your email address will not be published. Required fields are marked *

Scroll to Top