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The Institutional Risk Analyst

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FSOC Frets About Nonbank Risk; Goldman Sachs Stepping Back?

Updated: Sep 23, 2023

September 22, 2023 | Premium Service | Few people on Wall Street noticed when the Federal Deposit Insurance Corporation (FDIC) Board of Directors appointed Arthur J. Murton to serve as Director of the Division of Complex Institution Supervision and Resolution (CISR). Mr. Murton will perform these duties while retaining his role as Deputy to the Chairman for Financial Stability.

“Art is a trusted leader at the FDIC with decades of experience. I look forward to working with him in this new role,” said FDIC Chairman Martin J. Gruenberg.

Most close observers of the FDIC were expecting Murton and a number of other senior managers to retire after years of excellent service. As an agency, FDIC is facing a crisis as senior managers retire and hundreds of years of operational experience in supervising and closing failed banks walks out the door. But readers of The IRA should ask themselves why Chairman Gruenberg has given this veteran manager responsibility for resolving large banks at this particular juncture.

The Financial Stability Oversight Board convenes today to discuss the risks posed by nonbank financial institutions. It is notable that the FSOC is mostly looking at hedge funds, money market funds and leveraged lenders in their deliberations, yet mortgage lenders and servicers are also on the FSOC agenda again. See our latest comment in National Mortgage News ("Washington's fretting over nonbank risk is misguided")

The FSOC is particularly focused on speculative activity in the Treasury market, but what do Treasury Secretary Janet Yellen and Chairman Gruenberg expect when the US is racing down the road to insolvency? Aggressively trading Treasury securities with as much leverage as JPMorgan (JPM), Goldman Sachs (GS), Citigroup (C) and Morgan Stanley (MS) will provide is an act of self preservation given the tenor of things in Washington.

Chairman Gruenberg skilfully avoids criticizing the FOMC for nearly crashing the US financial system in December 2018. He jumps right to 2020 even though the FOMC cut the duration of mortgage backed securities in half with open market operations in 2019. The mark-to-market losses on securities held by US banks is a direct result of the Fed's actions in 2019. Again, Chairman Gruenberg:

“The systemic risks nonbanks pose to the financial system were again evident when the COVID-19 pandemic first hit the United States in early 2020. Liquidity vulnerabilities similar to those that fueled the Global Financial Crisis resulted in severe market dislocations in March 2020. As this series of events unfolded, it resulted in significant outflows from money market mutual funds and liquidity pressures on other nonbanks, such as highly leveraged hedge funds, which further pressured U.S. Treasury and short–term funding markets. This caused extreme volatility throughout the financial markets that was further magnified by the high levels of leverage and fragility at some nonbanks. In response, the Federal Reserve once again utilized emergency lending facilities in order to support nonbanks and stabilize the financial system.”

The chart below shows the index of duration for Ginnie Mae MBS from Bloomberg. Notice the sharp decline in duration a year before COVID exploded onto the scene as the Fed went “big” with reserves. Gruenberg and other regulators refuse to publicly criticize the FOMC’s actions in 2019, but that is not the case in private. This chart illustrates the vast duration problem that the FOMC has created for banks and other investors.

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