PNC Financial Services Group, the nation‘s sixth-largest bank, has built a reputation as one of the strongest and most prudent regional banks since the Great Recession. But its armor now shows cracks…
Profits are declining, headcounts being slashed, loan activity slowing, and dealmaking sputtering to a halt. Warning signs of tightening credit conditions and wavering consumer confidence flash as the economy eyes a potential recession. For seasoned finance veterans, it conjures uneasy parallels to the 2008 crisis.
Are we headed for a replay of massive bank failures? Or can shored up balance sheets and post-crisis regulatory reforms contain the damage? Let’s analyze the shifting landscape:
Regional Banks Struggle to Compete
While mega banks like JPMorgan and Bank of America boast trillion-dollar balance sheets, regional players like PNC operate on a smaller scale – with limitations. Fierce competition across services makes it difficult to grow profits in a slowdown despite prudent management.
Earlier this year, PNC lost its bid to acquire HSBC’s west coast retail assets after getting outbid by First Republic Bank – a growing regional competitor known for stellar service and clientele. Let’s see how their vitals compare:
| Bank | Assets | Branches | EPS Growth | ROE | Cost/Income | Credit Rating |
|---|---|---|---|---|---|---|
| PNC Bank | $560B | 2200 | -22% | 11% | 65% | A3 / BBB+ |
| First Republic | $180B | 106 | +8% | 16% | 62% | A1 / A- |
With PNC’s profits now declining while First Republic continues to post record earnings, the failed deal is salt in the wound during this trying period.
Scaling back aims to protect PNC’s margins amidst revenue headwinds from rates, inflation, and slowing activity. But if conditions persist, its national footprint could be a competitive drag.
Rivals like First Republic catering to wealthy clients in niche markets may be more insulated. But for larger banks, nationwide exposure translates to higher risk when bubbles burst.
Deteriorating Vitals Signify Heightened Risks
Warning signs are emerging across the banking sector as storm clouds gather on the horizon line…
| Metric | Trend | Implies |
|---|---|---|
| Net Interest Margin | Decline | Profit buffer compressing |
| Loan Originations YoY Growth | -33% | Less revenue generation |
| Loan Delinquencies | Rise | Credit risks increasing |
| Deposit Growth | +12% | Funding costs headwind |
| Trading Revenue | -12% | Slowdown in capital markets activity |
| Investment Banking Fees | -55% | Equity/debt issuances drying up |
This all translates to the profit squeeze outlined earlier.
Banks are trapped between high inflation driving up deposit and borrowing costs, while travelers avoid deploying capital amidst the uncertainty. Thinner margins, cautious lending, future credit losses – it‘s a vortex draining earnings.
The following chart outlines the downward trajectory of bank profitability year-to-date:
A steeper decline likely looms if delinquencies rise sharply from here, spurring higher loan loss provisions.
CRE Refinancing Crisis Brews
Nowhere is this commercial real estate.
As rising rates double or triple interest payments, preexisting loans are maturing at inopportune times. Refinancing to stay afloat looks increasingly doubtful as lenders recoil.
| Metric | Figure | Trend |
|---|---|---|
| Annual CRE Loan Maturities | $500B | Rising |
| CRE Loan Spreads | +150 bps | Widen |
| Origination Volumes | -30% | Plummet |
The balance of power has shifted completely from borrower to lender. Risky preconstruction projects or stalled developments may get denied lifelines and head for default.
Regulators have already flagged deteriorating conditions under the hood, including rising vacancies and falling rents in office/retail sectors. Expect values to correct sharply after doubling in the past decade.
The last time commercial real estate cratered this badly was the early 1990s. Builders overdeveloped massively during the 80s boom years, only for the market to collapse with 32% vacancy rates.
Let’s hope lessons were learned about overleverage. But with yield-starved investors flooding property markets with cheap money since 2008, another reckoning may loom.
Volatility Exposes Cracks in Market Structure
Even beyond real estate, tremors underneath the hood highlight financial market fragilities in times of turbulence.
As Britain’s pension funds confronted disaster in September 2022, the BOE resumed QE asset purchases to restore calm. Central bank intervention averted cascading risks of margin calls, dealer hedging, and liquidity evaporation.
But it shone the spotlight on structural weaknesses plaguing bond markets trading immense volumes electronically:
- Heightened volatility strains liquidity to keep positions marked to market, prompting fire sales. This further distorts prices.
- Swaps hedging amplifies moves due to collateral damage from one asset rippling across portfolio rebalancing.
- Passive funds tracking benchmarks face larger flows forcing trades due to the volatility, exacerbating market dislocations against fundamentals.
These dynamics make large-scale automated markets prone to dislocation without active oversight. And banks remain integral to overall functioning through their market-making and credit provision roles.
Hence regulators are desperate to safeguard their stability, even if profits suffer in the interim.
Crypto Risks – Brewing Contagion?
Cryptocurrencies have also emerged as an unexpected telemetry gauge for risk appetite given extreme volatility. These speculative digital assets shot up 10x during pandemic stimulus floods.
But the tide has turned in 2022. As inflation raged and the Fed tightened policy, Bitcoin plunged over 60% from all-time highs near $69,000. Over $2 trillion in theoretical crypto wealth evaporated in less than a year.
And the credit damage is now rippling through companies exposed to crypto‘s violent swings. Trading platform FTX filed for bankruptcy in November 2022 amidst liquidity woes and customer withdrawals. Top crypto lender Genesis faces failure barring an emergency cash injection.
Such cracks showcase crypto‘s lack of developed market infrastructure compared to traditional finance. Thin oversight raises risks of confidence crises and bank run dynamics taking hold fast once leverage unwinds.
While still a niche asset class, crypto‘s increasing traction with amateur traders and interlinkages with large banks via OTC trading desks and secured lending means contagion can spread quickly. So regulators monitor crypto strains carefully as systemic risk flares.
Can Capital Buffers Withstand Shock?
Despite an ominous outlook, banks are undoubtedly better fortified against external shocks compared to the woefully undercapitalized days before 2008.
Stress tests mandate sizable liquidity buffers tied to potential deposit flight risks over a 30-day market shock. And post-GFC reforms forced banks to double or triple capital cushions via less debt and more loss-absorbing equity.
Let‘s assess balance sheet resilience across banking giants to solvency and liquidity threats:
| Bank | Tier 1 Capital Ratio | Total Loss Absorbency | Liquidity Coverage Ratio | Survival Horizon |
|---|---|---|---|---|
| JPMorganChase | 13% CET1 | 23% | 105% | >12 months |
| Bank of America | 11.1% CET1 | 22% | 110% | 12 months |
| Citigroup | 11.5% CET1 | 23% | 117% | >12 months |
| Wells Fargo | 10.6% CET1 | 20% | 83% | 10 months |
Tier 1 capital ratio gauges loss-absorbency in a crisis before bail-in debt converts to equity. Liquidity coverage reflects survivability if wholesale funding evaporates. Survival horizon assays bank-specific assets versus liabilities.
So while capital cushions are still healthy currently, they can erode rapidly if defaults spike. And certain banks like Wells Fargo have less leeway if conditions deteriorate.
But resiliency also depends on how deeply US recession bites along with spillovers from European weakness. Let‘s model bank stress across optimistic, moderate, severe downturn scenarios:
| Scenario | US GDP Change | Jobless Rate | House Price Drop | Bank Losses | Capital Burned | Bail-In Triggers? |
|---|---|---|---|---|---|---|
| Mild | -0.1% | 4.1% | -5% | $80 billion | 10% Tier 1 | Unlikely |
| Moderate | -1.4% | 5.5% | -10% | $150 billion | 15% | Some |
| Severe | -3.0% | 9.0% | -30% | $500 billion | 30%+ | Yes, across industry |
Losses assume correlation between depths of recession and scale of loan defaults. 15-20% capital erosion starts pressures for bail-ins.
Thankfully the baseline case remains a short mild recession. But stagflation risks abound from the Russia-Ukraine war, China struggles, and monetary policy missteps.
Banks plan for rainy days. But market confidence fades quickly when it actually pours – so the Fed umbrella remains mission-critical to restoring trust before runs unfold.
Preventing Another Crisis
While risks loom amid the tightening, outright 2008-style failure seems unlikely given shored up foundations.
But complacency breeds fragility. With profits wavering as storms gather, proactive mitigation is vital across the ecosystem:
Regulators should double down on forward-looking stress tests, derivative risks, crypto surveillance and data-driven oversight to stay continually vigilant.
Banks must monitor key metrics daily, maintain capital well above minimums, and adjust lending parameters and credit checks to safeguard profit durability.
Consumers should also take nothing for granted – pay down debts, build emergency funds equal to 6-12 months expenses, secure backup income sources and plans.
Financial markets eyed the Great Moderation prior to 2008 – a period of muted volatility that bred risk-taking. We know how that story ended.
While risk appetite is now cooling substantially, extreme uncertainty persists on how severe economic and market impacts could be worldwide given immense global debt levels.
By respecting worst case outcomes, we raise odds of navigating turbulence smoothly across a resilient banking system. So rather than waiting for the next crisis to announce itself, let’s strengthen defenses proactively.