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The Institutional Risk Analyst

© 2003-2024 | Whalen Global Advisors LLC  All Rights Reserved in All Media |  ISSN 2692-1812 

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Fear & Loathing in Credit; Update: PayPal Holdings

February 9, 2024 | Premium Service | Is that sudden peak in consumer credit costs about to begin? In this issue of The Institutional Risk Analyst, we hear from Bill Moreland at BankRegData about the credit outlook for New York Community Bank (NYCB) and the banking industry more broadly. We then dive into the results from PayPal Holdings (PYPL)

Next week, we’ll take readers on a trip down memory lane and talk about why President Joe Biden needs to channel President Herbert Hoover of a century ago and resurrect the Reconstruction Finance Corporation to clean up the black hole of moribund urban commercial real estate. 

As we noted the other day, NAREIT says the value of commercial real estate in the US was over $20 trillion in 2021. A lot of this supposed value was aspirational and assumed an inflating market. Today, we'd probably haircut the entire industry by 20% or $4 trillion. Maybe Barry Sternlicht's estimate of a $1 trillion loss is a little bit light? But hold that thought.

First the good news from Bill Moreland, the banking industry actually grew in Q4 after a year of shrinkage in assets and income.  “The $258.60B Q4 increase is the largest in 8 quarters since the go-go printing days of 2020-2021,” he writes.

“The reason, as always, is the Federal Reserve: 1) About $90B of the asset increase was from AFS Securities valuation gains from Powell's conveniently timed beneficial December verbal pivot, and 2) Approximate $33B quarterly increase in the BTFP the majority of which was most likely a Cash arbitrage play.”

Moreland notes that cash deposits with the Fed held by JPMorgan Chase (JPM) and Wells Fargo (WFC) have soared. “Either the Fed is paying too high a rate and the largest banks would rather take the no risk 5.40% IORB, or the largest banks aren't comfortable lending in the current environment.”  

We think that the latter is increasingly the case. Indeed, the Fed’s radical and really clumsy approach to managing reserves continues to offer banks a risk free alternative to private lending. How is this helpful? Bill Nelson at Bank Policy Institute wrote in his latest paper entitled “How the Fed Got So Huge”:

“Following the collapse of Lehman Brothers in September 2008, the Federal Reserve underwent a significant shift in how it implemented monetary policy, transitioning to an excessive-reserves framework that it had deemed too radical and rejected just months prior. This shift involved borrowing excessive reserves from banks, deviating from its traditional method of borrowing only the amount banks needed to meet reserve requirements and address clearing needs. Despite initial intentions to revert to the necessary-reserves framework, subsequent developments, including three rounds of quantitative easing, led to the permanent adoption of the excessive-reserves approach in January 2019 by the Federal Open Market Committee (FOMC). This decision was a mistake. The framework has not yielded the purported benefits, such as simpler policy implementation, and has required the Fed to be vastly larger than originally anticipated. Advocates of the excessive-reserves approach argue it aligns with the Friedman rule, but alternatives like a voluntary-reserve-requirement regime could achieve similar outcomes without the drawbacks.”

In terms of NYCB, the bank just elevated former Flagstar CEO Alessandro (Sandro) DiNello as Executive Chairman, but he and his team have a lot of work to do. Selling participations in credit exposures or outright asset sales is the first task. Moreland notes that charge-offs have been increasing across the bank’s portfolios. He reports on the latest CALL data from FDIC:

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