Why more US banks could collapse
Silicon Valley Bank, Signature Bank, and First Republic are among the largest bank failures in US history. But more banks could fail, according to Fed chair Jerome Powell.
Category
😹
FunTranscript
00:00 Silicon Valley Bank, Signature Bank and First Republic are among the largest bank failures in U.S. history.
00:07 And experts say more could be at risk. So what's going on and is your money safe?
00:13 I'm Leila Maidan and I cover all things investing and money.
00:17 Since the 2008 financial crisis, 542 banks have failed.
00:22 And more recently, in 2024, Philadelphia's Republic First Bank shuttered its doors too.
00:28 There will be bank failures, but this is not the big banks.
00:31 But why are banks struggling right now?
00:34 One reason is that they're vulnerable to interest rates, which are at the highest they've been in over 20 years.
00:40 After March 2022, the Federal Reserve raised rates at the fastest pace since the 1980s to fight off inflation.
00:48 This means borrowing is more expensive. Mortgage rates are now at the highest in over two decades.
00:55 Business loans, auto loans and credit card interest rates are also up.
00:59 And this has really hurt consumers like you and me.
01:02 But all of this is also crushing the bank's business. Here's why.
01:07 First, since debt is expensive, fewer people are borrowing from banks and some are even defaulting, including big-time landlords.
01:16 Second, some banks are losing depositors who are moving money to high-yield savings accounts and money market funds that yield as high as 5 percent.
01:26 Because let's face it, consumers can benefit from high interest rates too.
01:30 But this means banks that want to keep your deposits have to pay you more for your money.
01:36 And third, banks that bought long-term bonds when interest rates were lower are now less valuable because their yield is lower.
01:45 And let's face it, nobody wants old bonds when the newer ones pay a higher yield.
01:51 OK, so banks are hurting right now. But what does that have to do with your deposits?
01:56 Think of it this way. When you put your money in the bank, they don't just put it in a big pile of cash in a vault somewhere.
02:04 They use most of it to lend it out and earn interest or invest in other assets.
02:09 And this is called fractional reserve banking. So your money is not actually in the bank.
02:15 And this is where problems can happen.
02:18 A lack of good risk management could cause a bank to be caught off guard when economic conditions shift.
02:25 And a bank faces the risk of failure when it cannot fulfill its promises to meet withdrawal needs or pay back those that it borrowed from.
02:34 And this could happen because a bank is losing too much money from loans, investments or rapid withdrawals, known as a bank run.
02:42 So which banks are more vulnerable right now?
02:46 Well, it's mainly the smaller regional or community banks that are facing the most pressure.
02:51 This is because they tend to be less diversified when it comes to their depositors and borrowers.
02:57 But these banks provide critical services in small towns and communities.
03:01 They lend to small businesses, startups, smaller landlords, homebuyers, farmers and all of those people who may have a difficult time getting approved for a loan at a major bank.
03:12 And when these smaller banks fail, they could be bought by bigger banks.
03:16 So one example is JPMorgan Chase, which acquired a majority of the assets of First Republic in 2023.
03:24 The problem is bank consolidation means smaller business owners may end up with less access to banking services, which at the end of the day hurts local businesses and communities.
03:36 But if you don't use any of these small banks, why should you still care?
03:40 Well, because it can impact the greater economy. Here's how.
03:43 If small businesses and startups don't have access to money, it hurts economic growth.
03:49 And plus, the fear caused by a collapsed bank has ripple effects like depositors withdrawing from smaller banks altogether.
03:57 The collapse of U.S. banks in recent years has raised some concerns about major financial challenges.
04:04 Let's take Silicon Valley Bank, for example. It didn't have good risk management.
04:09 It lacked a diverse customer base and mainly serviced tech startups and venture capitalists.
04:14 This meant when business was good, it had a lot of access to cash, which it reinvested into long term bonds when interest rates were low.
04:23 But the tech sector is volatile. And when debt became expensive, startup founders faced barriers to funding and borrowing.
04:30 So guess what they did? They increasingly turned to their deposits.
04:35 This started a run on the bank and the bank had to sell bonds at a loss to meet withdrawal needs.
04:42 This caused a ripple effect because shortly after, Signature Bank faced a fear based bank run because word got out that it too had tech and crypto exposure and a high volume of uninsured deposits.
04:55 So during 2022 and 2023, it was actually the tech sector and the crypto sector that were in trouble.
05:03 But right now, the main sector of concern is commercial real estate because lower demand for office space combined with high interest rates has made this asset class riskier.
05:15 In 2024, almost a trillion dollars in commercial real estate loans are set to mature.
05:21 And as they end, some of these loans will need to be renewed in a higher interest rate environment.
05:26 Whether landlords can afford to keep them is in question.
05:30 Commercial real estate foreclosures are already up by 117 percent from last year.
05:36 This is why some want the Federal Reserve to begin cutting interest rates sooner, even though inflation is still high.
05:43 It's also why Jerome Powell recently said that banks at most risk will be those that have high exposure to commercial real estate loans and high exposure to uninsured deposits.
05:54 And so the first bank failure of 2024 was Republic First Bank, and that's because of its commercial real estate exposure.
06:01 Now, the stress on banks this time around isn't as bad as it was in 2008.
06:06 Since the financial crisis, regulators have more experience managing risk and contagion.
06:13 And on a positive note, data shows that less than 7 percent of bank failures since 2007 resulted in losses for uninsured depositors.
06:22 That said, here's what you can still do to protect your money.
06:26 First, make sure your bank offers FDIC insured deposits.
06:31 That's the U.S. agency that insures up to $250,000 in your account in the event your bank does fail.
06:38 But if you have more than that, consider splitting the accounts into a checking and a savings account or under different ownership categories, such as a business account.
06:48 You can also move it to a different bank to keep deposits under the insured limit.
06:53 Overall, predicting if a bank is going to fail is difficult, but remaining informed and asking questions to your bank is one way to keep our banking system safe.
07:03 [MUSIC]