When Will We Have to Worry About Bank Failures Again? Mike Larson | Tuesday, March 1, 2016 at 4:20 pm
Investors had nary a care in the world today, with the Dow Industrials jumping 348 points and bank stocks finally putting some points on the board. But will that strength persists? Or does a hidden risk loom?
Let me answer that question with another question: Have you ever read the QBP from the FDIC? Or even heard of it?
I can’t blame you if your answer is “no.” The acronyms stand for the “Quarterly Banking Profile” and the “Federal Deposit Insurance Corporation.” The QBP provides a comprehensive portrait of the health of the banking sector every quarter. The FDIC, of course, is the federal agency that provides you and me with deposit insurance on our bank accounts.
We haven’t had to worry about the banking system for some time now. While net interest margins on core lending operations have been under pressure, delinquencies, defaults, and charge-offs have been negligible. Loan growth has been healthy and a decent, if not stellar, economy has generally helped borrowers meet their obligations.
Indeed, only eight FDIC-insured institutions failed in 2015. That was down from 18 a year earlier, and a huge drop from the peak years of 2010 and 2009. Almost 300 banks failed in those two years alone.
So-called “problem institutions” that the FDIC has identified as having financial, operational, or managerial risk also fell to 183 last year. That compares with a peak of 884 from a half-decade earlier, as you can see here:
Chart
So what’s the problem? Well, if you’ve been following the financial sector as long as I have, you know that failure is the last step in the process.
First, your borrowers start missing payments. Then if the underlying economy and loan fundamentals are too weak, your attempts to “cure” those delinquencies fail. Only then do you have to charge off your losses, something that erodes bank capital if those losses go above and beyond the reserves you’ve set aside. That, in turn, can push you one step closer to failure.
Bank stocks often start rolling over long before failures peak, too. Case in point: The SPDR S&P Bank ETF (KBE) topped out in the first quarter of 2007, then proceeded to lose a whopping 85% of its value over the next two years. It then began a long, slow climb back even though failures didn’t peak until 2010.
I’m not suggesting we’re on the cusp of a 2007-2009-style collapse. But the latest QBP report does note that provisions for loan and lease losses are rising again. In fact, they climbed for a sixth consecutive quarter to a three-year high of $12 billion.
As for charge-offs, they rose 7% from a year earlier – the first such increase in 22 straight quarters. Commercial and Industrial (C&I) loan charge-offs surged more than 43%, while auto loan charge-offs jumped almost 16%.
In other words, we’re starting to see some fraying around the edges. “We’re starting to see some fraying around the edges.”
Energy losses are a key driver of the deterioration now, and some of the commercial real estate and auto sector risks I’ve highlighted could be problems down the road.
So keep an eye on this trend. There haven’t been a lot of Friday afternoon “bank closure” press releases like this one from the FDIC lately. But if the economic weakness in energy broadens out, and it turns out bank executives were too optimistic about their credit exposure, we’re going to see plenty more in coming quarters.
What do you think? Will it be time to talk about bank failures again before long? Or is the industry in good enough shape to weather the current level of credit risk? What do you think about investing in bank stocks here? Are they good bargains? Or is another major leg down looming? Share your thoughts when you have a minute.
Poster Comment:
Will more banks go belly up? You bet they will.