Bank Profits Cut as Paper Losses Rebounded in Q3, But Falling Yields Could Ease Balance Sheet Pressure

New data from the FDIC shows that US bank profits shrunk in Q3 while unrealized losses re-expanded to near record levels. This was not totally unexpected, as rising Treasury yields continued to pound banks’ bond holdings. Though dependence on the US Federal Home Loan Banks (FHLB) continued to decline among commercial depositories, the drop in outstanding advances has been partially offset by record borrowing from the Fed’s Bank Term Funding Program (BTFP). The number of “problem banks” tracked by the FDIC is now at a nearly two-year high. 

On the bright side, yields on long-dated US Treasuries have slipped below levels recorded at the end of Q3, which could ease pressure on banks’ balance sheets if that trajectory is sustained. Bank profits have been partially depressed by an increasing balance of loan-loss provisions, which rose by a third YoY in Q3. Though these reserves are charged against profits in the immediate term, they can be used to boost profits in future reporting periods if damage to banks’ loan books is not as intense as expected down the line.

Related ETFs: SPDR S&P Bank ETF (KBE), SPDR S&P Regional Banking ETF (KRE)

Per the Federal Deposit Insurance Corp’s (FDIC) most recent quarterly banking profile, net income for the 4,645 FDIC-insured commercial banks and savings institutions in the US was recorded at $68.4 billion in Q3, down -3.4% from the prior quarter and -4.6% YoY. Throughout the third quarter, deposits held across all US commercial banks have barely budged, rising by just $48.9 billion. That has done little to offset a much more significant decline in deposits throughout the past year and a half, at one point equivalent to a drawdown of nearly -$975.0 billion from peak levels in April 2022. Since the trough, only about 12.9% of withdrawn deposits have returned to the banking system.

Banks have witnessed a recent resurgence in unrealized losses on their available for sale securities and held-to-maturity (HTM) assets, which expanded by -$125.5 billion to -$683.9 billion in Q3. That paper loss is only slightly narrower than the record -$689.9 billion reported in the third quarter of 2022, as higher rates have continued to pile stress on banks with significant holdings of long-dated Treasuries and mortgage-backed securities, acquired when interest rates were much lower than they are today (and bond prices much higher). The FDIC’s collection of “problem banks” expanded to include 44 institutions, its most extensive list since 2021.

To deal with significant unrealized losses on assets, compounded by a decline in deposits (typically, their cheapest source of funding), banks have turned to outside sources of liquidity in various forms.

The value of the funds on loan from Fed’s Bank Term Funding Program (BTFP) jumped to a record high of just under $114.1 billion in the week to November 22, up by more than 6.0% over the past three months. The BTFP, established last March in a bid to shore up banks’ access to liquidity amid…