Banks’ Paper Losses Rebound, but Rising Deposits and Restructure of Securities Portfolios Signal Resilience

The FDIC’s latest Quarterly Banking Profile (QBP) sent headlines flying as unrealized losses held by US banks expanded to more than $516 billion in Q1 and a five-year high of 63 banks were listed on the regulator’s tally of “Problem Banks”. These figures are a bit misleading on their own, as the markdowns tied to banks’ available for sale securities and held-to-maturity assets were virtually unchanged YoY despite long-term yields having risen significantly over the past twelve months. That shows a material improvement in the quality of their securities portfolios, as banks have apparently taken measures to mitigate their exposure to deeply discounted bonds without re-igniting a panic resembling last year’s crisis.

Further, deposits at America’s commercial banks have thus far rebounded strongly in 2024, rising on an annual basis across each of the last eleven consecutive weeks. Higher levels of deposits will further bolster banks against any liquidity concerns that might otherwise force them to realize losses on underwater securities. Based on the QBP data, most (if not all) of the banks which newly fell into distress in Q1, now counted among the FDIC’s list of troubled depositories, are likely small community banking organizations with average consolidated assets of less than $1.5 billion.

Related ETF: SPDR S&P Bank ETF (KBE)

Despite showing a nearly 80% QoQ increase in net income throughout the US banking industry, the FDIC’s latest Quarterly Banking Profile (QBP) has managed to cause a stir among speculators, largely due to the hulking $516.5 billion in unrealized losses being carried by US depositories in Q1. A more in-depth analysis shows there are some compelling silver linings that show how the health of banks has actually improved significantly over the past year. While it is true that the size of paper losses associated with available for sale securities and held-to-maturity (HTM) assets increased sequentially from the final quarter of last year, the tally was virtually unchanged on a YoY basis. This is significant as the yields on long-dated Treasury securities were much higher at the close of Q1 2024 than they were a year prior.

The primary catalyst behind skyrocketing markdowns on banks’ securities portfolios, and what would ultimately doom Silicon Valley Bank to failure, was an aggressive ratcheting up of both short and long-term interest rates that heavily discounted the valuations of mortgage-backed securities, US Treasuries, and other bonds that were acquired when rates were much lower (and bond prices much higher). While yields on 10-year and 30-year US Treasury bonds had spiked by 72 and 67 basis points over the course of a year, respectively, the unrealized losses held by US banks were steady. Not only have a number of the most overburdened banks already been taken into receivership and absorbed by competitors, but as MRP has noted previously, many of their peers took advantage of improved bond valuations in the fourth quarter of 2023 to restructure a portion of their securities portfolios without realizing the elevated level of losses they would have been forced to previously. This has increased many banks’ preparedness for another potential ramping up of rates. This opportunistic cleanup of bank balance sheets is…