More “Cracks” Expected in Big Banks
As we reported last week, the Institute of International Finance (IIF) has sounded the alarm on the effects of interest rate increases on overall debt, with a focus on government debt. The IIF being the lobby for the “financial industry,” they, of course, disregard the elephant in the room, i.e., the effects on the private sector. One gets a good idea of the bankrupt state of the financial system by looking at the amount of the banks’ unrealized losses, i.e. the loss in value of their assets due to interest rate hikes. Economists Pam and Russ Martens, who run the Wall Street on Parade website, have calculated them at over a half-trillion dollars in the second quarter for U.S. megabanks.
(This ticking time-bomb was probably on Jamie Dimon’s mind, as CEO of JP Morgan Chase, when he told the Times of India that the banks could not sustain a 7% interest rate.)
Increasing central bank rates triggers the depreciation of current bonds (if used as collateral for instance), as well as increasing government debt. The latter causes the offer of bonds to rise in order to finance the increased debt, thus pushing bond yields higher, thus depreciating current bonds even more, etc.
Banks have concealed losses by shifting massive amounts of such assets from the “mark to market” section of their balance sheet to the “held to maturity” section. Such practice amounts to cheating. Investors must wait for the FDIC quarterly report with the mark to market value of those assets, in order to have a fair assessment of their investments.
“The largest bank in the U.S., JPMorgan Chase, has transferred massive amounts of securities into the held-to-maturity [HTM] category. According to JPMorgan Chase’s 10-K [financial form] for the period ending Dec. 31, 2022, it was holding $425.3 billion in HTM securities, which actually have a fair market value of just $388.6 billion or an unrealized loss of $36.7 billion,” reports Wall Street on Parade in a Sept. 25 article entitled “The Perfect Storm Hits Big Banks”.
“According to the FDIC, as of June 30, 2023, ‘Unrealized losses on securities totaled $558.4 billion in the second quarter, up $42.9 billion (8.3%) from the prior quarter. Unrealized losses on held-to-maturity securities totaled $309.6 billion in the second quarter, while unrealized losses on available-for-sale securities totaled $248.9 billion.’”
Furthermore, the precarious situation of U.S. banks is aggravated by a flight of depositors following bank failures earlier this year. The 25 largest banks have lost $920 billion in deposits since April 13, 2022. Investors have either turned to smaller banks, which offer higher interest rates, or bought short-term U.S. Treasury securities that now yield over 5%.
The latter is no good news. Indeed, U.S. government bonds are falling in price because of the dynamic described at the beginning. In the U.S., for example, benchmark 10-year Treasury yields are now hovering around 16-year highs at 4.57%, with some investors saying they could rise to 5% – a level not seen since 2007. As a result, we can expect more bank failures.