To The Moon

I am surprised by the lack of coverage on the latest downgrade undertaken by Standards & Poor (S&P).

Coming barely 2 weeks after Moody’s downgrade of 10 US regional banks and warnings issued to 5 bigger US international banks including JP Morgan.

To untrained eyes, is this a coordinated attack by renown rating agencies against US banking sector?

While I am uncertain as well, it sure looks like that from where I am seated.

What Is The Long Story Short?

• The downgrade was about 5 US regional banks that are mainly lenders with high commercial real estate (CRE) exposure.

• According to Aptus Capital Advisors - Portfolio manager, David Wagner, "Some of the structural aspects for banks, regarding their balance sheet, remain risks to banks, as the Fed continues to try to anchor inflation with higher rates for longer".

• The affected banks are (a) $Associated Banc-Corp(ASB)$ (b) $Valley National(VLY)$ (c) $UMB Financial Corp(UMBF)$ (d) $Comerica(CMA)$ & (d) $KeyCorp(KEY)$.

• S&P has been transparent on why the 5 banks were selected.

• ASB & VLY were downgraded due to “funding risks and higher reliance on brokered deposits”.

• UMBF & CMA were downgraded due to “deposit outflows and higher interest rates“.

• Lastly, KEY was downgraded “on the back of constrained profitability “.

• Unrelated, S&P also lowered its outlook for (i) S&T Bank & (ii) River City Bank from “stable” to "negative" due to "higher CRE exposure”.

• After the news broke out, all of them fell between -3.14% to -4.47% (see above).

• Looking at the 5 bank’s pre-market indicator for Wed, 23 Aug, it looks like they will continue to trend downwards.

Although unmentioned, the bigger US international banks were spooked by S&P downgrade too (see below).

• The Top 5 US banks (by market capitalization) lost between -0.71% to -3.27% in yesterday’s trading.

• Looking at each bank’s pre-market indicators for Wed, 23 Aug, they are forecasted to dip marginally between 0% to -0.072%.

Downgrade Consequences:

(1) Borrowing has become more costly.

• Especially so for US banking sector still reeling from March’s bank debacle when the 3 regional lenders (Silicon Valley, Signature Bank & First Republic) failed, prompting broader banking industry turmoil.

(2) Cost of insuring against a default on US banks has edged up.

• Based on S&P Global Market Intelligence’s data, Goldman Sachs’s 5-year credit default swaps (CDS) has risen from 77 bps (Mon's close) to 78 bps (Tue’s close).

• It is the highest level in a month.

(3) Bank’s rising costs.

• The Fed looks to maintain interest rate at elevated level for a while in its bid to starve off inflation.

• This has raised costs at banks directly.

• Banks now pay more interest on deposits of 4.5-5.5% in savings & money market accounts, to keep customers from seeking higher-yielding alternatives.

• At the same time, they are sitting on a big portfolio of loans that are drawing 2.5-4.5% in interest in contrast.

• It is a bit lop-sided if I may say so.

Is The Time Ripe To Buy Bank Stocks?

Despite all the headwinds encountered, I do not think it’s time for the kill yet: (dun quote me)

(1) Mr Powell has not spoken yet.

• I think it is prudent to wait and hear what Mr Powell has to say on Fri, 25 Aug at the annual Fed’s Summer symposium in Jackson Hole, Wyoming, at 10am.

• Market is equally unsure and curious of Mr Powell’s overall tone for his speech - dovish or hawkish?

(2) Fed’s new 01 Oct 2023 Capital Requirement.

• Referencing The Fed’s 27 Jul 2023 press release (see above).

• The individual capital requirements for all large banks will come into effect on 01 Oct 2023.

• The retention amount is determined by each bank’s Stress Test result, that have provided a risk-sensitive & forward-looking assessment of each bank’s capital needs during a crisis.

• When enforced on 01 Oct 2023, banks will overnight have a “smaller” pool of resources to use for income generation.

• Should a bank's capital dips below its total requirement - the penalty is automatic restrictions on the bank’s (a) capital distributions and (b) discretionary bonus payments.

• The Fed will not entertain reconsideration request/s from any bank that has flouted its capital requirement.

(3) FDIC Levy Contribution from Jun 2024 to Mar 2026

• It is hoped that readers have not forgotten the one-time instalment contributions from banks to help replenish FDIC’s coffer.

• This comes as a result of FDIC’s dismal bailout of the 3 failed banks ($SBNY, $SVB & $FRCB).

• Top 14 lender banks will have to fork out a total of $5.80 Billion a year collectively for almost 2 years to help FDIC rebuild its war chest.

• Click here to read my original post, if interested!

• Quite certain, this will eat into each bank’s profits, starting 2024.

• Do you still think now is a good time to buy into Bank stocks?

• Do you think US banks will have a chance to come out intact, one piece after the current storm?

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