The State of Regional Community Banks

♪♪ The loss of a succession of regional and community banks, starting with Silicon Valley Bank, has made many of us wonder, is our money safe and is there more to come?

Joining us today to discuss these questions and make sense of what happened are two bank CEOs, James Beckwith and Simone Lagomarsino.

James, in the case of Silicon Valley Bank, what happened?

Well, it was a classic run on the bank scenario.

What may be different this time around is that it happened in such a short period of time- really, one day, really, a couple hours.

The ability to move money today is much greater than it was 20 years ago.

And so, on that famous or infamous Thursday, $42 million ran- $42 billion ran out of the bank.

And it forced the regulator's hands.

Banks fail because of lack of liquidity.

And when you have $42 billion run out of the bank, um, they couldn't make their cash letter.

And so, the regulators had to shut them down.

Now, we could talk about how that happened and what the causes were, but it was simply inadequate controls over interest rate risk and liquidity, uh, which followed a rapid rise in growth of Silicon Valley Bank.

Management didn't see it coming.

And, uh, unfortunately for their shareholders and bondholders and their customers, it failed.

Well, it's interesting, um, how you describe it.

Um, Greg Becker was just testifying before Congress and, Simone, when he went before Congress, he blamed everybody but his dog, it seemed like, for what went wrong.

- Yes.

- As a matter of fact, he... he talked about, you know, that the regulators were overzealous, that, you know, uh, you know, borrowers and... and depositors didn't act, uh, adequately.

What's your take on- going a little bit deeper- on the actions of the bank itself that led to this circumstance?

Well, it... it is interesting.

I actually had an opportunity to review the testimony that Greg gave in front of the Senate... Senate Committee, House- uh, Financial Services Committee and... and, um, he did seem to blame the rapid rise in interest rates as one of the reasons that... that his bank failed.

But as- of course, as James has pointed out, um, that- there are many other banks that are doing well.

It wasn't the rise in interest rates, on its own.

It was the fact that they weren't managing interest rate risk to the level that they should have been managing it.

Um, but you look back and it was interesting, I did not realize all of this until I read the testimony.

They grew to $71 billion at the end of 2019, and then they grew to 100- over 100 billion at the end of 2020.

And then, they grew up to 212 billion at the end of 2022.

I mean, when you look at the rapid growth that they had, it is surprising that they didn't seem to have the controls in place.

Um, not just interest rate risk, but other controls in place.

And I do think- I mean, when you look at 94% of uninsured deposits, I definitely think that that fed into, um, the... the people, when... when they announced the sale of some of their securities, and they were going to take a loss of $1.8 billion on the sale of those securities, that panicked people.

And as James said, in the course of just a couple of days, you know, with the use of... of electronic funds transfer that we now have, you can read a- you know, a... a... a... a news report on, you know, on the news- on your... on your phone.

And then, you turn around and click into your online banking and say, “I want to transfer all of my money out of this bank.

” And I think social media did play a lot- a... a big role in it.

And I think, in this testimony, he said that.

But I think there's other reasons behind it that... that, really, um, he did not talk about.

Well, James, the... the thing that, uh, seems very puzzling is that in his, uh, testimony- and also referred to in a recent article in The Wall Street Journal- at one point, Silicon Valley Bank had over a thousand people working on regulatory compliance.

And so, between- If... if you take him at his word, which I'm not sure about that, but let's take him at his word and, uh, the bank really did have a thousand people working on compliance.

And then, on the other side, you have the government regulators.

How could everybody miss, um, that sort, uh, of exposure for that long?

Well, I think you're... you're touching on the... the salient point, uh, Scott, in that there was a huge miss.

Um, I'm- I did read some of this testimony, Simone, and... and it's just inconceivably- inconceivable, to me, how he can't personally take responsibility for this.

Uh, it's a shameful act, uh, what he didn't do, I should say.

And, I think, to your question, Scott, I mean, it's a lack of an ability to see the forest through the trees.

They're working on minutia, uh, probably at the account level from a compliance perspective, but didn't take in consideration, uh, what a rapid rise in interest rates would do to their securities portfolio, thus eliminating that securities portfolio for li... for liquidity purposes.

And there's also the question about how he announced his, uh, his sale of the available for sale securities.

Uh, he announced it one day that he was going to take a $1.8 billion loss, like Simone said, and the next day, he said, 'Oh, yeah, by the way, we have to raise capital.'

Any prudent bank management team would do it the other way around.

You get the commitment for capital first, and then you execute the sale.

I'm wondering, Scott, whether this was just hubris on behalf of that CEO.

Obviously, it's bearing true in his testimony and... and certainly, uh, you know, what happened to his bank.

We- All banks work with the public confidence and trust, and Silicon Valley Bank lost that with their supposed venture partners, of which they banked.

Now, Silicon Valley Bank, what a unique organization- a monoline, if you will.

Maybe they did a little bit in the wine business, Simone.

But mostly, it was venture banking.

And they didn't realize that these folks that they had been working with for 40 years could turn on a dime.

And it was a huge mistake, a poorly constructed balance sheet, a lack of oversight, uh, from a... from a board perspective.

Did they have deep banking expertise on their board?

I don't think so.

And then, obviously, um, the CEO and the CFO just really missing the mark.

Now, from a regulatory perspective, uh, that's- there's been some testimony, some reports by the Federal Reserve as to what happened.

And I think they are taking responsibility for, you know, their role in this.

So, they're stepping up and saying, 'Hey, yeah, maybe we should have done things differently,' i.e.

been a lot more aggressive with respect to putting forth corrective actions.

So, I think that's a lesson learned, uh, certainly by the Federal Reserve of San Francisco.

Um, and I would expect those folks who, uh, who are, uh, regulated by the Federal Reserve Bank of San Francisco are going to have to comply with, I'm going to argue, with some more stringent standards, uh, that they're going to put forth.

- Hmm.

Simone- - So, I'd like to comment on... on that, if I may, Scott.

I, um, have the privilege to... to actually serve on the board of the Federal Reserve Bank of San Francisco.

And I think there is a misperception out in the market that each individual bank regulates the banks that are in their region.

And, in fact, the board of Governors sets the regulation, sets the... the guidelines for how the examiners are going to examine banks.

And yes, the examiners, for instance, for the Federal Reserve Board of San Francisco- for the Federal Reserve of San Francisco, they operate out of the San Francisco branch, but they truly are reporting directly to the board of governors.

It is...

It is, um, not something where each bank- And it's actually, I think, a benefit to the banks in... in the system, in the industry, um, that our regulators don't, um, regulate them 12 different ways out of 12 different Federal Reserve banks, but instead regulate banks across the country consistently.

But I do think that there have been some key learnings.

I think BARS report, um, provided some good, um, key learnings.

And I think one of the things that it talked about was the need to escalate, uh, instead of working to get, um, consensus on things and... and... and take time to build consensus up the ranks.

It's escalate as quick as possible, if you have an issue, and don't wait, uh, to... to build consensus along the way.

And I think that is something that, uh, is a key learning and... and I think it will benefit, um, the- all of the... the... the banks in the country, um, by them doing that, so that we don't see something like Silicon Valley Bank happening again.

Because as a community banker, I'll just finish with it doesn't help any of us when any bank fails.

It... it hurts us all.

- Simone- - Well, I- I couldnt- Let me just weigh in on that too, Scott.

I couldn't agree more with Simone.

It doesn't help any of us.

And in fact, uh, Scott, who said the actions of one man can't change the world?

And certainly, in our space, his lack of action, his lack of oversight, his lack of financial acumen certainly has affected us in a... in a... in a- not a very positive way.

Well, that actually brings me to whether or not the system is broken or... or, in some ways, um, worked... worked, and in other ways, did not.

Simone, you have, uh, as you referenced, um, the unique vantage point of serving on the board of the Federal Reserve Bank of San Francisco, and also as chair of the Federal Home Loan Bank of San Francisco.

And both, while very different players, both of them related to the banking sector in... in terms of its overall management and also its, uh, access to funds that... that keep them liquid.

Uh, where is it that you see that the system really broke down and the system worked?

Sure.

Well, first of all, the Federal Home Loan Bank, um, after what happened on March 9th, 10th, and all the way through the 12th, uh, that following week, the Federal Home Loan Bank system raised over $300 billion to support the outflows of funds that... that the rest of the banking system experienced, as a result of what happened with one bank.

Um, $300 billion.

So, in that sense, the Federal Home Loan Bank system worked.

I will say also that, you know, it was very interesting to see what happened, um, between, uh, Friday, uh, the 9th of March and- or the 10th of March, and then, the 12th.

Um, when they announced the closure, uh, the first thing that was said was customers of Silicon Valley Bank would have access to only their insured deposits on the following Monday, and it wasn't until the 12th- which, um, the announcement that came from the joint release of the Treasury and the FDIC and the Federal Reserve, all of them coming together- that they said all of the deposits would be insured.

And I have to tell you, those couple days were the most difficult days of... of- you know, I can remember in 40 plus years of banking.

The calls that I got from people saying, “Simone, is the Federal Home Loan Bank going to be able to, you know, advance money on Monday?

” So, you know, I was fielding calls and putting people together.

And I have to commend the... the... the joint press release and what they did in that, including coming up with the new Federal Reserve- Well, what joint press release?

Forgive me.

I'm sorry.

Um, on the 12th, um, of March, um, the, uh, FDIC, the Treasury Department, uh, the Federal Reserve, it was a joint, um, press release that they put out that basically said all of the- They... they announced, for the first time at that point, that... that, uh, Signature Bank was closed.

And it said that all of the depositors, not just, um, insured deposits, but all of the depositors in both banks would have access to their funds on Monday.

And they set up, bridge banks for both banks.

I mean, to me, that was honestly amazing, that the regulators moved that quickly to set up bridge banks to make sure all of the deposits- and then to create the Federal Reserve, um, lending program that they put in place for the next day.

- Let me... let me push back on that a bit, because, historically, if memory serves me correct- And... and full disclosure, everyone, I served for two decades on the board of the Federal Home Loan Bank of San Francisco's board.

But historically, we've always talked about the concept of moral hazard, and where it is that, you know, we... we need to let folks fail and let the chips fall where they may because of the fact that, otherwise, if what Janet Yellen did and... and the other folks or other entities you talked about come in and rush in and backstop what's happening in the market, you create a perverse incentive for more risk taking and more irresponsible behavior, because they figure that some parent, uh, in the form of the federal government is going to come in and save them.

How do you respond to that?

Well, first, I would say that the FDIC insurance fund is funded by banks.

Taxpayers don't pay into the FDIC insurance fund.

Banks pay into it to create the insurance to cover banks.

Now, what does that mean in terms of the uninsured deposits?

Generally, the regulators try and... and do what they did with First Republic, quite honestly, and be able to run a process so that it closes at the end of business on a Friday, as one bank that gets closed and... and put into receivership, and then opens as a different bank on Monday.

And that's what happened with First Republic.

They closed as First Republic and... and the regulators moved in.

And on Monday, they opened as Chase.

Um, so... so, that is what they want to do.

Now, in terms of moral hazard, um, I think- and... and again, you know, being in the industry and getting the calls that I got over that weekend of, you know, after... after Silicon Valley failed, people were frightened.

Customers were frightened when they... when they weren't going to- people weren't going to have access to the uninsured deposits.

And think about it, 94% of the deposits at Silicon Valley Bank were uninsured.

94%.

So, you know, that- people were... were frantic at... at not being able to have access to their funds.

And that was just going, you know, across not just the customers of Silicon Valley Bank, but customers of all banks were panicking.

And so, you know, I think that it was important that they did what they did.

And I, um, I...

I commend them for it, because I know there were- probably would have been a lot more bank failures had they not stepped in to calm people's, you know, nerves and... and calm the markets.

James, I'd like your response on the moral hazard issue.

Sure.

And I think that's a long term issue, um, Scott.

I think that, um, uh, we, uh, we don't want to see people or bank management teams take these, uh, you know, outsized risks.

Uh, you can see what happened.

Uh, you can see what happened to, uh, you know, banking in America.

Um, so, the near term fix, uh, you know, I think we were all, as an operator bank, all happy to see that, because I think it calmed people down.

It was unfortunate that the FDIC chair announced that people were going to get certificates, uh, over and above their insured, you know, insured limit.

I think that was probably, in hindsight, a misstep.

But you have to calm the market.

And so, this particular action that was taken by Treasury, the Federal Reserve, the FDIC, I think, was appropriate.

I think, in- from a longer term perspective, um, you know, the moral hazard issue comes into play.

And that's why, uh, I think you'll see a change from a regulatory perspective.

Whether you're a Fed member or a state chartered nonmember, like we are- and we're regulated primarily by the FDIC and also the state of California- you're going to see some changes in terms of their oversight.

And at our bank, at Five Star Bank, we welcome that scrutiny.

We... we have described it so many ways and... and so many times, uh, the differences between our shop, Five Star Bank, and Silicon Valley Bank and Signature Bank and First Republic.

We're a community bank.

We have diversified funding sources.

And where we deploy those funds is in a diversified earning asset base.

So, we're just different.

Um, we don't take those extraordinary risks that I think that... that Silicon Valley Bank did.

Well, I...

I want to ask...

I want to ask both of you about that, because, you know, overall, the S&P banking sector, if... if you look at it as an aggregate, is down about 19% plus, um, since the start of the fall of Silicon Valley Bank.

Um, overall, your- both of your stocks, respectively, have taken hits.

And I want to ask you, what's different about your banks today- and James, I'll start with you- than it... than it was, you know, prior to all this happening?

Because there seems to be a phenomenon going on in the market that, uh, that may or may not be at odds with the fundamentals of, uh, the institutions in the sector.

So... so, what's the real story there?

Well, I can tell you there's not much of a difference.

You know, if you look... look at our shop three months ago or last year compared to now, we're still executing.

We're still, you know, gaining relationships.

Were highly profitable, our credit quality is very good.

Our liquidity is very strong.

Our capital is strong.

There's not- no difference in what we do and how we act and how we support our local communities.

It's business as usual.

Um, and so, to... to be punished, if you will, from a stock valuation perspective, boy, I get it.

I get the sector is not in favor right now, um, because people are concerned.

People are concerned for a bunch of other reasons other than the failure of those three banks you mentioned.

Um, they're concerned about a pending recession and what that would do, uh, or... or... or a possible recession.

But we stay the course.

We do what we do.

We serve our communities.

We serve our customers.

So, there's really no difference, uh, today, as compared to three months ago.

Simone, your... your... your feeling on that?

I would say the exact same thing.

Well-said, James.

And... and, um, I want to go back to something James said though, a couple of minutes ago about, um, you know, your- James is different- James's bank, Five Star Bank is different.

I do think that... that most banks are community banks.

I mean, if you look at- I think there's between four- 4,000 and 5,000 banks now.

When I started- And that includes, I think, savings and loans, too.

It's still between 4 and 5,000.

When I started in the industry, there was over 16,000.

And when you look at... at, you know, how many banks are over 100 billion or over, you know, most of them are... are... are smaller banks and they serve the communities.

And that's what's beautiful is, you know, we- when we're a community bank, you're part of the community.

You know, you know, what's going on in that community.

You've taken deposits from the community and you turn around and lend those funds right back out to help support the community.

And that's very different than, I think, some of the bigger banks that... that are very spread out and... and I- and, you know, very monoline in some cases.

Well, Simone, I'm glad you came back to that, ‘cause a number of observers are also looking pretty critically at both regional and community banks and saying that they ad- lack the adequate supervision, um, for, you know, uh, players of their size.

And so, I really want to know is how do you respond to those who say, “Maybe in this era, regional and community banks don't provide a value that justifies the risks associated with them, and a system with, uh, fewer banks, but larger banks would be, one, easier to monitor and, two, more resilient in times of crisis.

” What's the value proposition of community banks in this day and age?

Well, first, I believe, personally, that the world would be very different, our country would be very different if all we had were big banks.

Um, I really believe, and I've seen it firsthand, how community banks, uh, get involved in the communities, they support the local nonprofits, they support, you know, the development that needs to be done in those communities, and they support small business.

And when you look at, you know, who is hiring and... and where the jobs are, theyre in that- the... the... the companies, the organizations that... that community banks actually, you know, fund and... and loan money to, so- and support.

I mean, I...

I just- I think it would be a very, very different- You know, I- And Scott, you and I have talked over the years, uh, ‘cause we worked together on the Federal Home Loan Bank Board.

It's a Wonderful Life is one of my all-time favorite movies, because, you know, that is- You know, the world would be a different place.

It's like George Bailey walking around looking at what his little community would have been like if he hadn't been there.

That... that's a perfect setup for... for me to go to you, James.

James, tell us what the world looks like if all we have left are the leviathans.

Well, thank you for the question, Scott.

Uh, community banks across the United States, and certainly within, uh, the capital region, support small business.

We are the- We make more small business loans than the... the majors.

We're absolutely necessary for economic development within our communities.

Simone also spoke about, uh, all the support we give to the nonprofit community- communities, and also supporting those who are, uh, uh, disadvantaged in our communities.

We're an important pillar.

And I want to reference back to, uh, uh, Treasury Yellen's comments yesterday, when she spoke in front of the Independent Community Bankers of America conference going on back in Washington, D.C. right now.

She said that community banks are the cornerstone of their communities.

That's a pretty significant statement.

And Senator Tim Scott from... from, um, uh, South Carolina echoed those comments.

And I want to- I just wanted for us to think just a moment, on one side, uh, up in Washington this week, you had the testimony by the former CEO of Silicon Valley Bank and others.

I think Signature was there, too.

And then, the other side, you had this love fest for community banks, uh, uh, from- coming from the... the electeds, both the senators and... and representatives.

It's a different world.

We're absolutely necessary, uh, for our communities.

To think about what our communities would look like if you just had two or three or five banks serving them, lack of choice, higher concentrations, um, uh, monopoly-like pricing, uh, it's just- it would be a different world.

You wouldn't have those relationships that small business owners count on.

That would- They wouldn't exist.

And they... they... they value those relationships.

You see community bankers in the... in the supermarket, on the playing fields.

Um, it just would be a different experience.

And I would suggest to you that our economic, uh- our overall economy in the United States would be diminished in a material way, if there was a concentration of banking power.

And I think that we're going to leave it there.

Um, thank you both, and, uh, uh, good luck in, uh, uh, the coming months as, uh, we continue to evaluate, uh, the circumstances going on in the market.

- Thank you, Scott.

- Thank you, Scott.

Nice to see you, Simone.

It's good to see you, James.

And that's our show.

Thanks to our guests and thanks to you for watching Studio Sacramento.

I'm Scott Syphax.

See you next time right here on KVIE.

♪♪ All episodes of Studio Sacramento, along with other KVIE programs, are available to watch online at kvie.org/video.