0:00

Today's episode is brought to you by public

0:02

dot com, an investing platform which you'll be

0:04

hearing more about later on in the show.

0:06

But for now, let's get into today's interview.

0:13

Welcome to guidance. It is Thursday,

0:15

March twenty third. We are recording one day

0:18

after Fed Chair j Powell

0:20

raised interest rates by twenty five basis points,

0:22

signaled it may be the last one

0:24

to come so much to talk about the banking

0:26

system. The turmoil continues, but

0:28

is it over? Who knows? And I am joined

0:30

by an all star team, Joseph Wang,

0:33

Chief Investment Officer of monetary macro, author

0:35

of fed guy dot com and Randy Woodward,

0:38

Managing Director at Raymond James

0:40

Financial

0:40

Gentlemen. Welcome. Thanks

0:42

for having us.

0:43

Thanks for having us. And you guys,

0:45

Randy is a super expert on regional

0:47

banks. He's been doing this for

0:49

decades. And we know there's a lot of excitement in regional

0:51

ways, so you definitely wanted to tune in to

0:53

listen to this. I've been doing this since

0:55

nineteen eighty eight and, you know,

0:57

I just wanna share my experience. That's

0:59

all. First, let's just start off. What were your

1:01

broad thoughts of the Federal Reserve's meeting

1:03

yesterday in terms of the dot

1:05

plot? The statement and the press

1:07

conference. Joseph will start with you then Randy.

1:09

So I think two

1:11

things stood out to me. The first was

1:13

that chair powell basically I was

1:15

telling everyone that their deposits are guaranteed.

1:18

Now for those of you who aren't familiar with how

1:20

the US works, you need an act of Congress

1:22

to do that. That being said,

1:24

once a bank gets goes into receivership

1:27

and is taken over by the FDIC, the

1:29

branches of the executive government have some

1:31

special powers. For example, when

1:33

Silicon Valley Bank was taken

1:35

over by the FDIC, the government

1:38

guaranteed all their deposits. Now what

1:40

Sherpa is trying to say, is

1:42

that so he can't literally guarantee

1:44

everyone's deposits, but he's strongly hinting

1:46

that if your bank goes under, your

1:48

deposits are going to be safe. So in effect,

1:51

he's trying to stop the banking panic.

1:54

The second thing that I thought was really interesting

1:57

was that, well, he's making

1:59

a rough calculation between

2:01

how between rate hikes

2:04

and how the regional bank panic

2:06

is impacting the transmission of

2:08

monetary policy. So Sherpa

2:10

is trying to slow the economy down by raising

2:12

rates. And what you think

2:14

is that when you raise interest rates, usually if

2:16

face higher borrowing costs and so they go

2:18

and borrow less and spend less. Trapaue

2:21

was thinking that, no, this vacant

2:23

panic might could adapt in on

2:25

the willingness of banks to lend, so the supply

2:27

of credit. And that might be equivalent to,

2:30

let's say, maybe one or two rate hikes. It's

2:32

totally, totally big. Not sure, but it has

2:34

some effect. So he's he's thinking

2:36

that he might not need to do

2:39

many more, if any, more rate hikes,

2:41

depending on how this regional banking shakes

2:43

out. So that's that's what

2:45

I thought was super

2:46

interesting. What about you guys? So the Fed reserve

2:48

raised twenty five basis points. The top ranges

2:50

for the Fed funds is now five percent

2:53

and the forward rates where the market is pricing

2:56

is a fifty five percent chance

2:58

that there's no hike in

3:00

May. So basically, the hiking cycle is is

3:02

over. Because if you and I have

3:04

been very cautious to use the p word, the pivot word,

3:06

I think the pivot is we're gonna be using that word

3:08

a lot lot more. Also, your

3:10

your view that Powell

3:13

was, you know, winking and nodding about guaranteeing

3:15

bank deposits. Very interesting. My reading is

3:17

he just saying that the banking system was sound, but

3:20

that's a very interesting reading. And then, of

3:22

course, the one of the most important quotes I

3:24

wanna get your thoughts on. It was with Joseph just

3:26

referenced was Pal was saying, yeah, the credit

3:28

contraction that we're likely expecting

3:31

that is equivalent to a rate hike or it could be even

3:33

more. That is very stunning. Randy, what were

3:35

your thoughts? My very simple opinion

3:37

is is that when you raise rates four hundred

3:39

four fifty five hundred, like the it's,

3:42

you know, the effects there. don't

3:44

know what I mean, I don't see any reason to take

3:46

it any higher. The only reason I can fathom

3:49

is that they wanted a

3:51

little more room because they know cuts are

3:53

coming eventually, but they don't wanna

3:55

go back to zero bound. You know, if

3:57

they want some room. If I had to guess, they would

3:59

love to just land at two percent, you

4:02

know, landing it on that super

4:04

carrier and then just stay there is

4:06

where they'd really like to be. I don't think they

4:08

wanna go to zero bound again because we

4:11

are seeing the ramifications of that

4:13

as I you know, set over and over

4:15

again in twenty twenty and twenty twenty one that

4:17

this zero amount and this fed buying

4:20

mortgages and crushing spreads is

4:22

going to have future ramifications. We

4:25

don't usually really understand. I

4:27

didn't know what the ramifications were gonna be back

4:29

then. One is banks

4:31

now are sitting on incredible amounts of unrealized

4:34

losses. Doesn't mean it's a bad thing.

4:36

It just means that it's an exposure that

4:40

we did not see because inflation

4:42

wasn't an issue yet. We didn't know the Fed was gonna

4:44

rate, you know, hike rates five hundred basis points.

4:47

That's my opinion. And

4:49

I think he just needs a little more time to

4:51

hang out here so he can hopefully

4:53

get some evidence that inflation is

4:56

finally being

4:56

tamed. And then we're gonna see a pause and

4:58

we'll go from there. That

5:00

Randy is a key point

5:03

of difference of between you and

5:05

Joseph You agree

5:07

my readings with Chris Whalen who said

5:09

the Federal Reserve play is to

5:11

blame for the fall of Silicon Valley Bank

5:14

because of quantitative easing. They've

5:17

caused all this money to flow in and it bought

5:19

securities that then declined in value. Joseph,

5:21

you are on the other side of Silicon Valley

5:24

Bank had horrible interest rate risk management and

5:26

you should let bad actors fail.

5:28

And if any other banks have also

5:30

bad interest rate management, you know, maybe they should

5:32

fail. You are against bailouts. You say it

5:34

is, you know, on the responsibility of

5:36

of of the banking system. These are two

5:39

very different views that I I think are

5:42

very important to explore. Joseph,

5:45

could you could you outline your view about why you

5:47

disagree, why you think the Federal Reserve is not

5:49

to blame for the banking turmoil?

5:53

Well, I think the Fed hikes rates and the

5:55

Fed cuts rates. Right? That's what the Fed does,

5:57

and the job of banks is to manage

5:59

around that. We

6:01

have over four thousand

6:04

banks and we have, I think, three or four thousand

6:06

credit unions. And when you look across

6:08

the space, it seems like that those who busted

6:11

are those who were one exposed to

6:13

very fragile industries, like,

6:17

exposed to industries that were

6:20

very interest rate sensitive. They're not doing very

6:22

well like tech and VC and crypto.

6:25

So Signature Bank, Silicon

6:27

Valley Bank, First Republic, these are

6:29

all banks that are known for their connection with

6:32

the tech sector. So when

6:34

interest rates rose, those tech

6:36

sector stood poorly, and the banks are

6:38

connected and did poorly as well. I I don't think that

6:40

surprises anyone. And as far as far

6:42

as I know when I'm looking across the banks, seems

6:44

like everyone else is is just fine. So

6:47

that suggests to me that there's maybe something

6:49

idiosyncratic going on, something about

6:51

how the banks manage their exposure to different

6:54

industries. Silicon Valley

6:56

Bank in particular is very

6:58

badly managed in the sense that not

7:00

just your asset side of your liability, and

7:02

Randy makes really good points that when you

7:04

have a lot of securities and rates go

7:06

higher, you have a lot of unrealized losses.

7:09

But there's also the liability aspect as

7:12

well. So if your bank, you want to make

7:14

sure that people don't all

7:16

take their money out at the same time. And

7:18

there are so many ways of doing this. common

7:21

way is to have, let's say, CDs

7:23

where the depositor can't take

7:25

their money back until three months, six months,

7:27

and so forth. Another very common way is

7:29

you just have a diversified depositor

7:32

base. You have a lot of retail depositors. Predicted

7:34

by two hundred fifty thousand in FDIC

7:37

insurance. They so they have no reason to run

7:39

or you can have depositors across different industries.

7:42

That if you have one industry that takes a big hit,

7:44

well, you don't go bust. But Silicon

7:47

Valley Bank basically highly concentrated

7:49

in tech, and over ninety percent

7:51

uninsured. So it was a bank for people

7:53

who would be inclined

7:55

to withdraw their deposits at the

7:57

first hint of trouble. In contrast,

8:00

when you look across the US, usually

8:02

banks have about fifty percent of their deposits

8:04

uninsured. So so the Kan Valley Bank

8:06

decided to make their deposit base

8:10

manage deposits in a way that their deposit

8:12

base was very vulnerable to runs, and I think

8:14

that's on them. Now the Fed certainly

8:16

did not help. And maybe if

8:18

the Fed didn't hike four hundred basis points,

8:21

Silicon Valley Bank would still be here. Real

8:23

quick. Like, maybe if the BTFP

8:26

was invented on a Friday rather than

8:28

a Monday, Silicon might still

8:31

be here. No. I I I'm

8:33

sure they probably would be

8:34

here. Mean, it's very

8:35

lame and ask to me. Yeah. It's

8:37

like it's it's like they were kind of late

8:40

a day. Right? And so thinking about all the people,

8:42

it's like on Valley Bank. They're like, No. Yeah.

8:44

It only came about, like, few days earlier.

8:46

But Yeah. -- but

8:48

you I think the bank has responsibility as

8:51

well. So Yeah. You gotta manage around

8:53

that. Right. And BTFP is the

8:55

bank term funding program is where banks

8:57

can pledge government securities as

8:59

collateral to secure

9:01

loans from the Federal Reserve for duration

9:03

of up to one year, and they can posted a par value.

9:06

They can post a security that's would trade at

9:08

eighty dollars let's just say and get a hundred

9:10

dollar loan. So, you know, in some ways, very

9:12

very generous to the banking system. Joseph,

9:14

you are very particularly laid out the case

9:16

feathers is not to blame Silicon Valley

9:19

Bank. They had a bad risk management. Randy,

9:21

why why what's wrong with that

9:23

case? Silicon Valley Bank, they had a hundred

9:25

billion dollars of deposits in

9:28

inflows, and they put it in these risky

9:30

agency mortgage backed securities that would

9:33

decline in value rapidly if interest

9:35

rates

9:35

spiked. They took these risks. What

9:37

is your response to to that argument? Well,

9:40

first off, that's not a risk. It's

9:42

just it's a no

9:45

financial and nope. Community Bank

9:47

Bank could of, you know,

9:49

know what they were gonna do. And even

9:51

if they knew, there's nothing you

9:53

can do about it on the whole. You

9:56

can mitigate But on the whole, you've

9:58

got to buy bonds that

10:00

give you a spread if you're putting it in the investment

10:02

portfolio. By the way, it's the same on loan portfolio.

10:04

So, really, let's just call it investing. You

10:06

gotta make a spread to whatever your

10:09

funding costs are. So

10:11

when I see a lot of that out there

10:13

that, oh, well, they made risky loans. And this

10:16

is I think that's what really got me going

10:19

really on this whole situation as I see

10:21

very intelligent people out there. Let's

10:24

call them out Richard Fisher. You

10:26

know, this past couple days ago

10:28

or over the weekend said, these

10:30

banks have made bad investments, and

10:32

that's just simply not the case. Let

10:35

me try to explain. So well,

10:38

first off, what Joseph just said is seven

10:40

hours worth of content. So there's

10:43

so much to talk about here. Obviously, we're not gonna

10:45

get it all in this but all his topics

10:47

and his thoughts are absolutely fantastic. AA5

10:51

year treasury has

10:54

a duration of about four and a half years.

10:56

K? Duration is just basically a

10:58

measure of interest rate sensitivity,

11:01

which is what we're seeing in markets right now

11:03

is that these banks

11:06

invest in bonds that have certain

11:08

durations. And if rates

11:11

go up, those bonds are going to

11:13

feel a certain amount of loss. Unrealized

11:16

loss by the way, depending on

11:18

how much duration they took. During

11:21

01I think most of most

11:23

of two thousand and two thousand

11:26

one, the five year traded

11:28

under one percent as low as about

11:30

thirty basis points. That means that

11:32

four and half year duration product,

11:35

if you bought it, was gonna probably be between

11:37

thirty basis points and hundred basis

11:39

points. You can't make a living on

11:41

thirty basis points. It's not going to work. Okay?

11:44

The portfolio that

11:47

SVB sold the AFS

11:49

version, twenty billion had

11:52

a three point five year

11:54

duration and had a one

11:56

point seven nine book yield.

11:58

Okay? That I'm telling you again

12:01

is very conservative. It it

12:03

is probably on, you

12:05

know, I would say,

12:07

on all the

12:07

portfolios I see. And this

12:09

is again something that no one else gets to

12:12

see, but only the people

12:14

who actually not

12:16

even bank CFO CEOs

12:18

can see it because they can only see theirs.

12:21

I can see many. My firm

12:23

can see virtually all of them. And

12:25

so we know what's going on underneath.

12:28

I could tell you that three point five year duration

12:30

on an AFS portfolio I would

12:32

be very happy with that as an adviser.

12:35

You know, to let me to be

12:37

sure, everybody understands what I've done my

12:39

whole career is I sell bonds

12:41

to banks. I help them

12:43

manage all these things that we're talking about,

12:45

AFS portfolio, HCM portfolio,

12:48

I help them manage that. III

12:50

help them build in in a way that protects

12:53

them from future fluctuation interest

12:55

rates, and and we can

12:57

get into avoiding credit risk, but

12:59

we do that too. So I

13:02

can tell you three point five is very good.

13:04

They still took a two billion dollar loss in

13:06

that because it's a timing matter. You

13:08

know, Fed has raised rates that raise

13:10

it on the whole curve. We have inversions

13:12

and all that, but fact is their,

13:14

you know, their average

13:17

that investment rates are up three hundred,

13:19

you know, basis points. No way to

13:21

avoid that unless

13:23

you're forced to to

13:26

sell it, and the BTFP program

13:29

alleviates that. You don't have to

13:31

sell. You can bring it to us and we'll give you

13:33

the money you need. AFS means

13:35

available for sale. Part

13:37

of where they park

13:39

their assets available for sale their marketing on the

13:41

market held to maturity. They are not

13:43

I'm actually gonna pull up the statistics so we can

13:46

have the data on

13:47

that. And Randy, you are saying

13:49

that

13:50

I'm

13:51

so sorry. Go ahead, Benny. No. Give me a minute on

13:53

it. Okay. Yeah. So another misnomer.

13:56

Now Jack, we stopped it. It was great.

13:58

But here's an extremely intelligent guy

14:01

who doesn't manage a bank

14:03

for portfolio's investment

14:06

portfolio under FASB

14:09

accounting rules. AFS

14:11

and HTM is just an accounting thing.

14:14

That's all it is. Has nothing to do

14:16

with hiding anything. Anybody

14:18

out there that says high you know, ATM

14:21

is hiding losses, they do

14:23

not understand. Those

14:25

losses are reported on

14:27

ten Qs and ten Ks every

14:29

single time, stop it with

14:31

that. It's nothing nefarious. It's

14:33

an accounting measure which is a

14:36

measure of GAAP capital and

14:38

tangible equity. What

14:41

it was FASB was trying to do is give a little

14:43

insight into maybe some of the underlying

14:46

risk banks might have in extraordinary

14:48

circumstances where they have to sell

14:50

these securities. That's it.

14:53

Nothing's hidden. That's all it is. So

14:55

you can more or less just

14:57

put that to bed. It's an irrelevant thing

15:01

to this current situation we have.

15:03

So there you go. Right. And so I got the numbers

15:06

in front of me. So as of year end

15:08

twenty twenty two, Silicon Valley Bank had twenty

15:10

six billion dollars of

15:12

securities in its available

15:14

for sale portfolio. And, yeah,

15:17

the duration you you cited is

15:19

correct. And then in its hold to maturity,

15:21

it had ninety one billion

15:23

dollars that had a a duration

15:26

of five point seven as a

15:28

year.

15:28

And as of year end, the twenty twenty

15:31

two so, yeah, the duration was lower. Right? Yeah.

15:33

Because of negative convexity duration increases,

15:35

and duration is interest rate sensitivity related

15:37

to maturity, but not the same thing, and roughly

15:39

correct me if I'm wrong, but a duration of

15:42

three means that your portfolio of

15:44

of loans of assets declines three

15:46

percent in value as

15:48

interest rates rise by one percent. So if interest

15:51

rate rise from one percent to two percent, you have a

15:53

duration of three hundred million dollar portfolio, you'd lose

15:56

three million dollars. Joseph, you

15:59

wrote an excellent article on your fantastic

16:02

blog, fed guy dot com. I think the name of it

16:04

was called hidden to maturity. And Randy

16:06

just said HCM is not to

16:08

hide lost or

16:09

so. So what do you think? No. It's Randy

16:11

is exactly right. So the assets

16:14

of a of a bank, say, loans and securities,

16:17

fluctuate basically according

16:19

to interest rates. So let's say you have

16:22

a hundred dollars in par value of a

16:24

mortgage or a treasury and interest rates

16:26

go up, the market value of that

16:28

would decline not just that, but

16:30

if you made a fixed rate loan to

16:32

a corporation and then interest rates rose

16:34

afterwards, then

16:37

the market value of that loan

16:39

would also decline. So the

16:41

assets of a bank balance sheet always fluctuate.

16:44

The thing is that because

16:46

of data limitations from

16:48

the outside, you don't actually see that day

16:50

to day. If you are

16:52

a bank and you put your assets in

16:55

available for sale, then that's mark

16:57

to market quarterly. But

16:59

if it's hope to maturity, then

17:02

it's it's never mark to

17:03

market. Banks can. They can come to me

17:06

on a daily basis and see exactly

17:09

what their unrealized losses or games

17:11

are. We have a system that

17:13

does that. So

17:15

it it again, it's they're not

17:18

they'll now they'll report that quarterly or annually,

17:21

but trust me, I got

17:23

plenty of calls. I'm going into,

17:25

you know, a board meeting. What what is

17:28

today's unrealized gain

17:30

or loss, which by the way, with tenure coming

17:32

down from four something to three

17:34

and a half, has been alleviated to

17:36

some degree. We're in such a small little

17:38

world what my industry does, there's

17:41

no way, you know, there's nobody

17:43

other than us could possibly know that that's

17:45

possible. And that's why I'm here.

17:49

Just as you're having noted, if you're an outsider,

17:51

you don't actually see this. The bank sees this every

17:53

day. But if you're an outsider, you don't

17:55

actually see that. So it's opaque.

17:57

And that's usually okay because, no,

18:00

we we expect the bank to do a good job

18:02

making sure that they have enough liquidity

18:04

to to manage their outflows even though

18:06

as outsiders, people who either deposit in

18:08

the bank or own the bank stock don't

18:10

see these fluctuations in in their asset

18:13

values. But if you're buying

18:15

something that has no credit risk, even

18:17

though the market value declines with high

18:19

interest rates, over time, the

18:21

market value will converge towards par

18:23

value because, eventually, that

18:26

hundred dollars in treasury securities it's

18:28

going to pay a hundred dollars because the

18:30

the US government has no credit risk.

18:32

So as Randy suggested, you know, over

18:34

time, these banks are gonna heal these

18:36

unrealized losses will disappear,

18:39

and it will converge towards towards

18:41

par. So part of this is a

18:43

timing issue. And maybe, as

18:46

as Randy suggested, Having

18:48

these emergency lending facilities is

18:50

way to buy a bit more time for these banks for

18:52

their balance sheets to heal a little

18:55

bit.

18:56

You're absolutely right, Joseph. Very

18:58

little credit risk. People are going to get paid back.

19:00

Again, mortgage backed securities, not the

19:02

subprime CEOs from two thousand eight. This is

19:05

agency explicit or implicit

19:07

guarantee of the US government credit risk, you

19:09

know, not really an issue, but you have that

19:11

interest rate risk and, yeah, let's say you buy

19:13

a Ginnie Mae and it goes from hundred to

19:15

seventy eight dollars, you can still market on your

19:17

book at a hundred dollars But

19:20

you do have there is a loss there. And when

19:22

you get paid back, you'll you will get paid hundred

19:24

dollars, but there's the opportunity cost of not

19:26

being able to by a Ginnie Mae that

19:28

now yields six percent instead of two

19:30

percent and that should be reflected. If I

19:32

bought TLT in April twenty twenty

19:34

at a hundred and seventy dollars, and then last fall is

19:36

at ninety three dollars, you know, at my brokerage account,

19:39

that's a loss. But the banks don't have

19:41

to do that, Randy. Tell me tell me what

19:43

I'm not I wanna

19:43

miss. Well, it's not a loss to you unless sell

19:45

it, Jack. Okay? So you have to

19:48

understand, you know, nothing's a loss, nothing's

19:50

a gain, by the way. Right? How many

19:52

times have I seen that? 0III

19:54

made this much in the stock market this

19:56

year. Did you sell everything? No.

19:59

We have made nothing. Okay?

20:02

Lawson made unless recognized

20:04

are not a real thing. Okay? On

20:09

both of what Joseph said and what you just said

20:11

there. So here's the situation. When

20:13

we talk about time is

20:16

and this is this is the point I I've been wanting really

20:18

get across to everybody. I've been talking about on Twitter

20:20

is In in

20:22

March two thousand twenty, k, we got and

20:25

by the way, there was there was situations, you

20:27

know, the market I think we were heading into

20:30

a recession in late two thousand nineteen. I almost

20:32

feel like two thousand twenty based that they ended

20:34

that because now comes all these extraordinary

20:36

efforts both by the Fed. All central

20:38

banks and the government's pretty money. So

20:42

March two thousand twenty, my

20:44

clients have a lot of money to invest. And

20:47

here comes the Fed and says, okay, we're

20:49

gonna take rates to zero very

20:51

quickly. Not only are we gonna do

20:53

that, but we're also gonna start buying

20:55

trillions of mortgages, which means you

20:58

got the biggest buyer ever

21:00

to exist in history of the market, now

21:02

put in their foot on

21:05

spreads. That means yields of those investment

21:07

to come down. We're gonna hold them

21:09

there for two years. We

21:12

don't know, you know, they we don't know that for sure,

21:14

but lower for longer.

21:16

That's what he said. We're not even

21:18

thinking about thinking about raising

21:20

rates. Thank you, somebody on Twitter who reminded

21:22

me of that. What as a bank are

21:25

you supposed to do? You have to figure

21:27

that's gonna be the case. So

21:29

you're gonna you're gonna invest in some duration,

21:32

you know. And so I go out and

21:34

I and and, you know, when we talk, everybody

21:36

thinks, you know, SBB was

21:38

buying thirty year mortgages and they see

21:40

thirty year as a final oh my god. They bought

21:42

thirty year. That's not. The duration

21:45

is what matters. And

21:47

they probably did not buy a bunch

21:49

of thirty year paper based on what I saw on that

21:51

AFS portfolio. But point being

21:53

is is any duration I by in those

21:55

period of time is at the lowest yields

21:57

ever. Okay? Now let's let's

22:00

understand this. Not

22:02

only k. What I just said

22:04

Rates to zero, mortgage spreads tightening.

22:06

Guess what? The entirety of the

22:08

United States mortgage market gets to refi

22:10

their loans. And pretty much

22:13

they all did. Okay? That means

22:15

the bank's assets, one of their Mesa

22:17

asset categories, not only on

22:19

their lending side, but also

22:22

on their my my world, the

22:24

portfolio side, all those

22:26

assets are now repricing. Okay?

22:29

The entirety almost, I would guess,

22:31

eighty percent of all their assets repriced

22:34

lowest rates in history. No

22:36

way to avoid that. Also,

22:39

by the same time, in March

22:41

two thousand twenty, my frustration was,

22:43

why are you buying mortgages? I

22:45

know the prices are coming down. And let's

22:48

just I'm gonna I won't get into the weeds,

22:50

but let's say prices are on

22:52

a certain coupon mortgages, 102.

22:55

They start to get down to par, one hundred

22:57

cents on the dollar. My accounts are buying

22:59

handover fist. Great for me.

23:02

Well then, all of a sudden, the

23:04

Fed takes that price in, like,

23:06

a week from one

23:09

hundred cents on the dollars to a hundred

23:11

and five cents on the dollar. Okay?

23:13

That's cataclysmic movement. I mean,

23:16

now that you just raised the

23:17

price, lowered the yield dramatically for

23:20

all my accounts who have a ton of money. And

23:23

so that quantity is easy because they were buying those

23:25

things. So a hundred to a hundred and five. Yeah. Right.

23:27

Okay. Now all my mortgages

23:30

loans that I had out there repricing. All

23:32

the loans I've been doing are repricing. Everything's

23:34

repricing to because of what the

23:37

Fed did. Alright? You had

23:39

to save the world with this pandemic. Okay?

23:42

Why did you have to buy mortgages though? I don't under

23:44

be stimulative. We could that's a whole another conversation.

23:48

But my guys had the money, then what

23:50

happens? Then we get stimulus

23:52

from the government. Now, we

23:54

get a trillion plus dollars in deposits.

23:57

If not more based on QE, and that's

24:00

a function that Joseph knows more about

24:02

than I do. All I know is we got all

24:04

these new deposits. I had banks

24:07

in a two year period of time, double

24:09

in size. Normally, they would grow

24:11

about five percent, ten percent

24:13

each year they doubled in size

24:15

in two years. That means all

24:17

those new assets are

24:20

having to be priced, invested

24:23

at the lowest rates in history. Fine.

24:26

Fine. Everybody's like, well, they were warned.

24:28

They were warned about higher rates. Bullshit. They weren't

24:30

warned until way after the

24:32

fact. They could have been

24:34

warned at any time. It just doesn't matter.

24:37

Rates go up five hundred basis points.

24:39

Now all of those things are at unrealized

24:41

losses. And now on

24:44

a delayed function, all

24:46

my deposit rates, all my funding

24:48

rates, all my all the my

24:50

ability to fund those assets

24:53

because they have to be continually funded,

24:55

all those rates are now going up. Okay?

24:58

And this is and

25:00

that's so what

25:03

I need then is time for

25:05

my assets to reprice to the

25:07

new prevailing rates, and I'm

25:09

fine. I'll be fine. All your

25:11

deposits are safe. They're

25:13

good. We just need no

25:15

panic because under any scenario

25:17

in history of the world, a bank nobody can

25:20

survive a bank run. So we have to make

25:22

every buddy realized community

25:24

banking is very safe.

25:26

And I will tell you guys SVB

25:29

Signature Bank is not community

25:32

banking. They're not even close to community

25:34

banking. So just

25:36

get that out. They are they were in

25:38

my mind, if you really dig into it, they're probably

25:40

closer to a hedge fund. So

25:43

that's where we that's why we stand

25:44

now. So what's gonna happen? I'm just telling what's happen

25:46

over the next year or

25:47

two. We're gonna get with time

25:49

that that that this situation's gonna

25:51

heal, the Fed's gonna start cut rates,

25:54

both of those things are gonna heal this

25:56

unrealized gain loss situation.

25:59

And hopefully, they don't cut to zero,

26:01

that they cut slowly, which

26:03

all this means banks re

26:06

adjust pricing, bring back the

26:08

asset liability, you

26:11

know, net interest margin back into something

26:13

that's manageable. It'll be fine. If

26:16

you've been listening to forward guidance, you probably

26:18

know that US treasury yields surged higher

26:20

last year. Right now, you can get a four point

26:22

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26:24

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26:26

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26:29

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26:31

treasuries is great. But buying US

26:33

treasuries is super complicated or at least

26:35

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26:37

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26:39

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26:41

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26:43

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26:58

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27:00

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to move your cash into a treasury account

27:17

today. Thank you. Let's get back to the episode. I

27:20

think Randy makes a really good point. Silicon Valley

27:22

Bank was kind of like huge mortgage REIT. Right?

27:25

It's said that mortgage rates they they borrow

27:27

in wholesale funding, let's say, repo

27:29

and buy agency backed mortgages. These

27:32

guys are borrowing and deposits and

27:34

investing in mortgages except they unlike

27:36

a mortgage rate, they didn't really do anything

27:38

with their interest rate. But I

27:40

think Randy makes a really good point about the

27:43

net interest rate margins. So usually,

27:45

we think of higher interest rates as good for

27:47

banks. Right? So interest rates are higher.

27:49

Usually, see, deposits

27:52

deposit rates are very low. They they don't

27:54

so if the Fed hikes, the four percent interest

27:56

rates deposits still remain above, let's say,

27:58

zero or one percent. So we usually think about

28:01

higher interest rates as widening

28:04

the net interest margin of banks and increasing

28:06

their interest income. But that's

28:08

not the case if you were a bank who bought

28:11

a whole lot of low yielding securities

28:13

that have a long tenure. So

28:16

back in twenty twenty, twenty twenty one,

28:18

if you're a bank and you bought a whole bunch of

28:20

mortgages and they have very low yields,

28:23

then when interest rates increase, eventually,

28:25

you're gonna have to pay your depositors more.

28:27

Right? But your yield on your mortgages,

28:30

they they don't really increase their asset that

28:32

doesn't mature. And because prepayments are

28:34

so low, maybe they will mature for for

28:36

some time. So in effect, if this

28:38

continues, you can easily have a lot of banks

28:42

in negative interest rate margins,

28:44

right, and that will believe that will cause

28:46

them to have operating losses and we'll

28:49

I guess, we we frame their ability

28:51

to create credit. That that shouldn't happen

28:53

though, Joseph. I mean, it

28:54

that that's actually probably arm

28:57

again. That because net negative

28:59

interest margin means you're not making any money

29:01

and the game's kinda over. It'll

29:04

compress. You know, and

29:06

and so it it that means,

29:08

you know, that's not great, but it's, you

29:10

know, we can survive, you know. And

29:12

and when you say mature, every

29:15

dollar, when you when you when anybody

29:17

in the world pays their mortgage.

29:20

Right? You got interest and you got principal. The

29:22

amount of principal that you pay on

29:24

your mortgage payment, you're maturing

29:28

that amount of money. That

29:30

amount of money that you just matured goes

29:33

to the bank and they get to reinvest that

29:35

at the higher prevailing rates. So

29:37

you know I know your mortgage is already alright.

29:39

I'm I'm retiring. So -- Right. -- eventually

29:42

over time. Through

29:44

your mortgage payments, The banks will

29:46

receive that principal, those low equity securities

29:49

will pay down, and the bank will have the opportunity

29:51

to take that and reinvest in higher rate. Higher

29:53

mortgages. So like Randy mentioned, they just

29:55

need time to heal, then they they can keep

29:57

their net interest margins

29:59

healthy, and they'll be in good shape continue

30:01

to create credit and forth the economy.

30:03

Alright. So I wanna say that, yeah, loans for Silicon

30:05

Valley Bank really weren't the problem

30:08

at at least on the most, you

30:10

know, the the the last financial unfortunately,

30:12

you know, documents that they they filed, you know, I

30:14

think their capital call lending business is just over

30:16

half of their loan book. They had one default in the

30:18

history of the entire business. It really was all about

30:21

duration risk. Joseph, I know I know you're

30:23

extremely polite guy, and Randy is making

30:25

a very articulate argument. But there was a

30:27

time ago where you said it's elementary,

30:30

the interest rate risk mistakes that

30:32

they made. I mean, you know,

30:34

if if you or someone who had easy

30:37

conception of interest rate risk, you

30:39

would have hedged that book. Why

30:42

was the interest rate hedging, you

30:44

know, so negligent if that is an appropriate word

30:46

to you. I mean, they didn't have a risk officer for for most

30:48

of last

30:49

year. Please go. And then, Randy, Joseph

30:51

and I want to hear your response from Andy. Yeah. Sure.

30:54

So I think from an accounting perspective, once

30:56

you put something into held to

30:58

maturity, you you don't actually hedge

31:00

that. So I think they made

31:02

a corporate decision once upon time

31:04

to just well, we have balance sheet of two hundred

31:07

and ten billion. You know, More

31:09

than half of that is in securities, and a whole bunch

31:11

of those securities were in ultimate maturity.

31:13

So they were just kind of, I

31:15

guess, they were made this corporate decision

31:17

such that they didn't think interest

31:19

rates would rise or perhaps they didn't

31:21

think that their depositors would run because

31:24

the other side of this equation is that if nobody

31:26

ran from Silicon Valley Bank, Even

31:28

if they had large unrealized losses, they'd

31:30

still be alive with us or they'd still be with

31:32

us today. So

31:35

it does seem odd to me that you would have so

31:37

much interest rate risk and and not do anything

31:39

about it. But from my what I understand

31:42

speaking with Randy, this is common practice among

31:44

regional banks and smaller banks. They assume not hedge their

31:46

interest rate risk. It's the more of GSIPs

31:48

that do things like that. That that hits their interest rate

31:50

risk.

31:51

Right. G SIP is a globally systemically

31:54

important banks that the big guys,

31:56

JPMorgan, Goldman

31:58

Sachs, Bank of America, Randy,

32:00

alright. So it's spring summer

32:03

of twenty twenty. These banks, they buy these

32:05

mortgage backed securities. Do they take a lot of duration

32:07

risk? That's fine. Jay Powell is saying, lower

32:09

for longer. We're not even thinking about thinking but

32:11

what about when the siren

32:14

song, the the call of, oh, actually,

32:16

inflation is getting serious, transitory.

32:18

We're gonna start tap tapering the balance

32:20

sheet. What about, let's say, January of

32:22

twenty twenty two? Why

32:24

not put some some serious interest rate hedges

32:27

on as as Joseph

32:29

said, why wasn't it negligent of

32:31

Silicon Valley Bank to not put those hedges

32:33

on? Okay. So

32:37

this is a I'll give you a skin in the game

32:39

answer first. If

32:42

I negotiate

32:46

a hedge for my clients with

32:48

that would go through my derivatives desks.

32:50

I will make a commission on that.

32:54

So in my career, if

32:56

it was wise to do so, I

32:58

would be doing it because I'd be making

33:00

money. Okay? And so would everybody

33:02

else in my industry, so would all the derivatives desk,

33:05

the guys, you know. So look,

33:07

if if they would be doing it if

33:09

they could, Let

33:11

me first say, okay. So if and

33:13

Joseph, I love you to death, man, but I gotta I'll

33:15

push back to you on this one. You know,

33:17

had they done this SVB would have

33:20

survived? No way.

33:23

No one can survive or run. End

33:25

of story. Just, I don't care what

33:27

you've done There's no way to survive.

33:30

Even if by the way, the BTFP

33:32

program existed, they

33:35

still would have failed because

33:37

they had forty nine billion deposits

33:40

rollout. You know, they had, you know,

33:43

that was accelerating. They only have so

33:45

much collateral to work with. At

33:47

some point, the deposits outweigh

33:49

your collateral and your borrowing capacity at

33:52

the game's over. Okay? So and

33:54

So with hedging, hedging

33:57

is extremely complicated when

33:59

you're dealing with unknown

34:02

cash flow. In the entire

34:05

portfolio, not only like Joseph

34:07

said, not only on your funding side, but on

34:09

your asset side too or on vice

34:11

versa, but So that's

34:13

extremely difficult. The more

34:15

optionality there is in those cash flows,

34:17

okay, with mortgages, because we

34:20

all have the ability to call our mortgage

34:22

by paying it off and and it the

34:24

more you add to that, the more expensive

34:26

those derivatives are gonna be. And

34:28

by the way, also at any

34:31

point, if you guess wrong

34:33

and you hedge for higher rates and rates go

34:35

lower, now you really got a problem.

34:37

Okay? There's no way to

34:40

perfectly on

34:42

the whole manage this interest

34:44

rate risk. This is Look, community

34:46

banking is no different than George Bailey's

34:48

Bank. It's the exact same model

34:51

that has always existed, and it's always

34:53

been an exposure that this

34:55

system borrow short lens

34:57

long and there's always gonna be this mismatch

35:01

exposure. We've just never had

35:03

the violence. K? So let me tell you what

35:05

the perfect hedge is. It costs

35:07

you nothing. And this is what we what I've been

35:09

talking about this whole time. The perfect

35:11

hedge is, and this is my job,

35:14

is to create consistent, predictable

35:17

cash flow in your portfolio.

35:19

That way, if rates go up,

35:22

I have a certain amount of cash coming back

35:24

that I can reinvest at the higher rates.

35:26

I'll even give you a number. My my

35:31

rule of thumb has always been you know, and this was

35:33

after probably ten years of being in the business. I figured

35:35

this out. I look at guy's portfolio

35:38

and I say, I want sixty percent of your

35:40

cash coming principal, coming back

35:42

to you in three years. I

35:44

think that's a really good way

35:47

to do it. That way, if rates go up,

35:50

you're gonna be okay. Now

35:52

let's say right now, I

35:54

might go to those guys and say, you know what?

35:57

You know, let's make that

35:59

forty percent of cash coming in. Because

36:02

that means I'm gonna lengthen my duration because

36:04

I'm starting to feel like we know where rates are gonna

36:06

go. So that way, if rates go

36:08

down, okay, I still have to

36:10

reinvest those cash flow at lower rates,

36:13

but not as much as before. But

36:15

what I'm doing is ebbing and flowing with

36:17

wherever rates may go. That's the

36:19

perfect hedge. That's the best hedge you

36:21

can do. Interest rate hedges on

36:24

certain sectors of lending are possible

36:26

and they can be perfectly

36:28

matched. But that's about

36:30

it. Not on the whole. No, guys. There's no such

36:32

thing. So if you can remind me of our

36:34

discussion with how divestment, Jack,

36:36

I recall that that the spread between

36:38

mortgages and treasuries, that camp, that's

36:41

unhedgeable. So and as we've

36:43

known, that spread has been volatile over the

36:45

past couple of years. So even if

36:47

those guys put on hedges that they would have would have

36:49

been difficult thing to do as Randy

36:51

mentioned. It's a it's a mitigator, but

36:53

it's not a savior.

36:56

You know, and and it compresses NIM.

36:58

And so when you're you're already having compression

37:01

in NIM back in twenty, you know, net

37:03

interest margin in twenty twenty one,

37:06

you're you're already having to go with, okay, well, I'm

37:08

only gonna make hundred basis points. I'm not used

37:10

to that. That's pretty low. My ROAs going

37:12

return on assets are going down. What

37:15

you want me to pay to that's

37:17

even gonna kill that even more. And

37:20

we don't know that that's gonna happen. And Jack,

37:22

when you can soon as they

37:24

say, we're gonna raise

37:26

rates. Guess how much your derivatives are gonna

37:28

cost now? More expensive and potentially

37:30

gonna go move index. Right. Randy, I I'm

37:32

gonna sort of be a little harsher

37:34

than I that I would just for the sake argument.

37:37

It's not my fault that I didn't buy car insurance.

37:39

Like, it's it's too expensive.

37:41

Yeah, but your the value of your car is predictable.

37:44

Okay? The value

37:46

of a mortgage backed security or any

37:49

interest rate sensitive asset

37:53

is unknown. So that

37:55

that there's another level of option

37:57

that we don't know thus the derivative

38:00

is ghastly more expensive because

38:02

we have to make up for the unknowns.

38:05

Right. So so, Randy, you said

38:08

you like it when clients get sixty

38:10

percent of their cash flow within first three years.

38:12

It's a shame that you you know, someone like

38:14

you were being listened to by by Silicon Valley

38:16

Bank because I'm looking at their hold of maturity

38:18

portfolio and eighty six billion dollars of

38:20

their, you know, ninety one billion dollars hold of maturity

38:23

portfolio. Had a maturity of over

38:25

ten years. I know duration matters much more than no.

38:27

I mean, no. It it matters

38:30

incredibly. It

38:32

not not just little like the the maturity

38:34

of their assets, I'm assuming, let's

38:36

say, they're mostly mortgages, is

38:38

incredibly irrelevant. It

38:41

it's the duration that matters. And think

38:43

you looked it up when we talked the other day,

38:45

their duration of that HDM portfolio before

38:49

Fed hike rates was four years. Again,

38:52

that is that's that's pretty much

38:54

middle of the road for all banks in the United

38:56

States. I would say most banks in the

38:58

United States. And now at

39:01

six, unfortunately, I can also

39:03

tell you that that's probably on par for

39:05

a lot of the banks in the United States. So

39:08

Yeah. Not not they they weren't doing

39:10

there was nothing weird in their portfolios at

39:13

all. I promise

39:13

you. Because if I wanna get your your

39:16

thoughts as well as I'll just throw out the arguments

39:19

on Randy's side of someone

39:21

has to bear the losses when the Federal Reserve raises

39:23

losses it's imposing losses on itself, which

39:25

it can it will, you know, not realize. But

39:28

because it don't so many treasuries, mortgage backed securities,

39:30

and it's it's paying this diverse

39:32

repo rate very, you know, there's the overnight rate.

39:35

But it's gonna impose losses on some banks.

39:37

And if Silicon Valley Bank had hedged its risk

39:39

with Goldman Sachs, Goldman Sachs would have their risk. They

39:41

would have sold their risk to someone else. Someone's gonna be end

39:43

up holding holding, you know, the bag of rotten

39:45

apples. So it's systemic. What

39:48

do you say to that as well as just, you know, Randy's general

39:50

argument? No. That's that's how

39:52

monetary policy works. It's one

39:54

of the channels. You raise interest rates. You

39:56

impose losses. There's negative wealth

39:58

effect. And someone somewhere has less

40:00

wealth to spend. We saw that happen

40:03

with crypto. We saw that happen with many MEMB

40:05

stocks. So you high grades. Someone

40:07

somewhere has less money to spend and maybe that

40:09

decreases demand, maybe that slows

40:12

down inflation. Think Randy

40:14

makes very good points on the asset side of the bank's

40:16

portfolio. It's hard to hedge that. And

40:18

especially if you are a community bank, maybe

40:20

you don't you're not used to used to doing

40:22

something like that. So

40:25

I think one thing that I would

40:27

fault on these smaller banks would be how

40:29

they manage their liabilities. Now broadly speaking,

40:32

the community banks are have

40:34

a deposit base that's insured so they

40:36

don't really have to worry about what happened with Silicon

40:38

Valley Bank. I think SVB

40:40

really is, as Randy suggested, an outlier,

40:43

they're burning themselves not so

40:45

much like bank but more like a giant

40:47

investment fund. But I'm actually

40:49

really curious about Randy's

40:52

perception as to whether or not what

40:54

happened with Silicon Valley Bank is

40:56

changing the behaviors of any of the

40:59

medium or smaller

40:59

banks. Are they thinking about their assets differently?

41:02

Are they thinking about their decision to hedge or not

41:04

hedge differently? Well,

41:07

first off, I would say, I

41:10

I found it. I find it really interesting. The

41:12

clairvoyance everyone has at

41:14

the risk of having

41:17

a high percentage of uninsured

41:19

deposits on your liability side.

41:23

Prior to Silicon

41:26

Valley Bank, in the history

41:28

of banking, no one's ever ever

41:30

ever commented on that. No one's ever

41:32

saw that as a problem. So

41:35

I I yet everybody's like, well,

41:37

there you go. They they should've known. No one

41:39

come on. And there's a lot of other banks that have

41:41

similar percentages. They

41:44

were the highest, no doubt. And I think

41:46

that was just a good way to say, look, it's their

41:48

fault. I think they're

41:50

false law in other places. But even

41:53

so and and, Joseph, I think you said

41:55

this yesterday, that on

41:57

the whole, fifty percent of deposits are

41:59

uninsured. Okay? So is fifty

42:02

percent better than eighty five I

42:03

mean, if the fifty percent disappears, you're

42:06

still dead. So I I, you know,

42:08

I I wanna get away. I I had something

42:11

else. The people the banks that

42:13

have the highest percentage of, on average,

42:15

on highest percentage of uninsured deposits,

42:17

they are the G SIP. So they're actually too big to

42:19

fail. So -- Yeah. -- you kind of have everyone going

42:21

there and big whatever, I'm sure the government

42:24

will bill me out. Banks that have the highest percent

42:26

of deposits that are insured are the

42:28

smaller banks.

42:29

There's some bigger banks out there promoting

42:33

the fact that, hey, we don't have that

42:35

uninsured risk because ninety five percent of our depositors

42:38

are actually insured. Mean, under two hundred

42:40

fifty k. Okay? And

42:43

okay. Great. That's great. But let me just tell

42:45

you something. If you if you look at history,

42:47

if you look at, you know, I don't know what,

42:49

let's just say, IndyMac is a good example.

42:52

Now, you could say what you want

42:54

about their assets, but it took one comment

42:57

from one Senator to kill any

42:59

Mac in a heartbeat. K?

43:01

I forget what center it was. He came out and said

43:03

something to the fact, I'm

43:05

concerned about the level of subprime lending

43:07

that any Mac's been doing. Done,

43:09

overclose the doors that was it.

43:11

Okay? There's a run on the bank. Didn't

43:14

matter if it was uninsured, insured. Your

43:16

mom went over there. Everybody went and

43:18

took their money out and came over. My point is,

43:22

you can never know what comment

43:24

or what event can cause a run

43:26

on a bank. So that's

43:28

why I'm I'm pointing out this uninsured thing.

43:31

Is that gonna be looked at? Yeah. They have to

43:33

now because everybody's now all of a sudden gonna look

43:35

at it. Yeah. Okay. So that's a thing, whatever.

43:38

You asked a specific question, Joseph, about hedging,

43:41

most certainly it's gonna be looked at.

43:43

Most certainly they're gonna start

43:45

to engage us and say, you know,

43:48

this step. But still, on the other hand, it's not

43:50

gonna become pervasive. It's not gonna be

43:52

this this holy grail of

43:54

it's just it cannot be. It's not

43:56

gonna exist like that. I do think

43:58

Joseph, if you're right though, let me one more thing. I

44:01

think they're gonna be a little bit more

44:03

careful about the

44:05

level of on demand deposits they have.

44:08

Right? So when you mentioned CDs

44:10

and other forms of funding,

44:14

even though they're more expensive. So now remember,

44:17

you know, where where in,

44:19

oh, you know, two thousand two thousand twenty one,

44:21

when you do those term

44:24

funding, meaning you lock in funding for

44:26

234567 years, whatever.

44:28

And CDs, you know, you're

44:30

you're stuck with that too. And you're in an

44:32

environment where you're like,

44:35

can rates go even lower? That's

44:37

bad because now I'm stuck with that,

44:40

you know, whatever that could could have been

44:42

two percent And if all of a sudden,

44:44

now any investment could get my hands

44:46

on is one percent, now I mismatched again.

44:48

I'm on a negative NIM on those amount of dollars.

44:50

So But I do think you're

44:52

absolutely right. I think that's where they're

44:54

gonna pay more attention is, can

44:57

I manage my

44:59

my you know, my app and my

45:01

my liability funding a little better?

45:04

So, you know, we're getting I'm not we're not

45:06

getting into this, but guarantee it. What people

45:08

are probably gonna be looking at is issuing

45:10

callable CDs. If I issue

45:12

a CD and it's got a one year

45:15

call, in one year if rates are

45:17

lower, I can say, hey, here's

45:19

your money back. And if you want to

45:21

instead of five percent, if you want another

45:23

CD in the same term or whatever,

45:25

it's gonna be four percent. Then

45:28

I'm gonna call it again the next year. Now it's three.

45:30

Now it's two. That gives them the ability to

45:32

lower their funding costs

45:34

as rates go down. That is

45:36

the beauty of this p this

45:38

new facility is every time

45:41

it goes down, I

45:43

have the ability to call it that

45:46

in in my favor is the borrower and say, hey, I

45:48

wanna lower my rate. I wanna lower my rate. I wanna

45:50

lower my rate because, you know,

45:52

I'm the one borrowing it, so it's it's

45:54

a type of call. That's that's

45:56

the kind of stuff they're gonna look at is is

45:59

how can I make my that's

46:01

such good point, Joseph? How can I make my

46:03

interest rate sensitivity on

46:05

my liability side more robust?

46:08

K? I know I I know Randy's helping

46:10

me do it on my asset

46:12

side. In managing the cash flow in my portfolio.

46:15

But how can I manage the cash flow,

46:17

which is essentially what it is, on

46:19

my borrowing funding side?

46:22

And and that's where I think the attention

46:24

will go more so than

46:25

hedging. So it would be better if

46:27

if a bank were funded with long

46:30

term issues of corporate

46:32

bonds. Goldman Sachs issues a ten year

46:34

bond. It's more expensive than, you know,

46:36

non interest bearing

46:37

deposits. But it's safer

46:39

because you guys have it locked in. If I lock in my

46:41

funding and all of a sudden, you know, do a ten year

46:43

fixed funding at five percent, and all of a sudden

46:46

rates go to two

46:46

percent, no, that's that's a negative.

46:49

Right. But it's positive if rates go from zero percent

46:51

to five percent. So it's still here. Right. Yeah.

46:53

But you can't make that guess. That

46:55

a bank is not in the

46:57

game of guessing where rates

46:59

are going. They're in the game of

47:02

trying to create a robust cash flow

47:04

so they can ebb and flow where rates

47:06

are

47:06

going. They're not they are that

47:08

is not their business to bet

47:11

where rates are going. So

47:13

a callable CD, for example, let's say

47:15

I invested in a callable CD today at

47:17

five percent, then if rates continue

47:20

to go higher, the bank is happy because

47:22

well, they don't have to pay me anymore. But

47:24

if rates go down, they can buy

47:26

that CD back from me. Right? Let's say rates go

47:28

back to zero. And then now poof.

47:31

The bank doesn't have to pay you five percent. They bought

47:33

that CD back. They continue zero

47:35

percent as they want. So it's a it's a good

47:37

idea. Where the bank can

47:39

manage their liabilities and also also

47:42

because it's a CD, I can't take it back whenever

47:44

I want. The bank has discretion to

47:46

do that. So they're they're not afraid of runs.

47:49

It's a it's a easier way to manage their liabilities

47:51

and interest rate.

47:53

Right. And, Joseph, the

47:55

chart that we put up earlier from from fed

47:57

guy dot com showing how it's

48:01

bigger banks that have the higher

48:04

percentage of uninsured deposits that would be more

48:06

prone to to bank runs. That that is correct.

48:08

You're absolutely correct in a macro sense, but I think it's

48:10

the case that the banks that have

48:12

eighty percent ninety percent uninsured deposits

48:14

are not JPMorgan at Bank of America. think Bank of America

48:16

is something like thirty percent, you know, these consumer

48:19

banks those are, you know, specialties banks

48:21

that bank to large businesses and

48:23

funds like Silicon Valley Bank, Signature

48:26

Bank. And I think First Republic, I don't think it was ninety

48:28

percent, but a lot large percentage of their deposit

48:30

base was eighty

48:32

percent. So, Randy, what how

48:35

how big you know, we know what happens to Silicon Valley Bank. We

48:37

know what happens to signature bank. What

48:39

do you think is the risk that more banks

48:41

fail? I suppose that, you know, the bank really in question

48:43

now, is First Republic that had

48:45

a large percentage of uninsured deposits that

48:48

there was, you know, a minor bank

48:50

run. The bank the bank's stock collapsed.

48:52

It's a secured funding from the federal home

48:54

loan bank. Right. For posting

48:57

its mortgages as collateral. Interestingly, it

48:59

made use of the FHLB it made

49:01

use of the ETFP as well as the discount

49:03

window, but it didn't have as many securities. As a

49:05

percentage of its total book like Silicon

49:08

Valley Bank. So so Randy, what would you say

49:10

is the health of the banking system now?

49:12

How do you see things going forward with first

49:14

public, all the issues I just mentioned, as well

49:16

as the other banks. Okay. So

49:18

a good way to answer that. Let's talk about

49:21

First Republic, Pac West, who are experiencing

49:23

issues. I'm gonna assume

49:26

my pro I I would have to guess I'm probably right

49:28

on this and that they're fine. It's a normal community

49:31

bank What is their problem?

49:33

Well, the problem is, well, two fold

49:35

here. One is that somebody

49:38

somewhere when Silicon Valley you

49:41

know, had its problems, immediately said,

49:43

wait a minute, there's the issue. They have

49:45

a high level of uninsured deposits. Which

49:48

has never been a problem for the history of banking.

49:50

All of a sudden, oh, what not? That's a problem now.

49:53

And they do a lot of VC

49:55

and tech. So you

49:57

take, like, Pac West, I'm not even sure where First

49:59

Republic is. I think they're in California too.

50:01

Okay. Wait a minute. Oh, I see. You

50:03

know who's at riskier? Who has

50:05

a high percentage of uninsured

50:08

deposits in Tech Valley

50:10

or exposed to that? Oh, there they are. Don't

50:12

don't sell. Okay. That's it.

50:15

And this is what I said earlier is that

50:18

bank runs can start with the

50:20

most, you know, inaccurate

50:23

comment from somebody of of

50:26

authority and all of a sudden you have a bank

50:28

run. And so that I'm I

50:30

would have to guess I know.

50:32

All my banks are fine. All my banks,

50:34

you know, yeah, they have this exposure, but

50:37

but it'll with time, it'll

50:39

be fine. So that's

50:41

what I think you're seeing there. And and right

50:43

now, I guess, the regulators are, like, you know,

50:45

in Fed and they're trying to figure out how to they

50:47

probably see the same thing. That's why they haven't been

50:49

forced merge with them anybody. That's why they haven't been

50:52

taken over by the FDAC because they know,

50:55

god, these guys are fine. We just

50:57

gotta find a way to get people to calm

50:59

down. And that was a point of the FPBFTP.

51:04

Right. And so when you say these guys are fine,

51:06

just an example of First Republic,

51:09

Sock fell from, you know, over a hundred to now trading

51:11

at twelve dollars and --

51:12

Correct. --

51:13

you know, for

51:14

I can't say go and invest in that

51:15

because Quite sharply, who

51:16

the hell knows. You know Right. If it's not Right. The

51:19

deposit could be fine. The bondholders could be fine.

51:21

The bank will still exist. Maybe it doesn't have to be taken

51:23

over. But when you have a fifty billion

51:25

dollar outflow of close to

51:27

zero cost deposits, and that has to be

51:29

replaced by borrowing from the FHLB, the

51:31

Federal Reserve, and JPMorgan

51:32

and, you know, all the other banks. That

51:35

it makes sense why the stock is gonna make less

51:37

money. Right. Right. Yeah. If if mister Rogers

51:39

had a bank, he'd still have the same

51:41

exposure. You know, the you know,

51:43

it it's just everybody's got this exposure.

51:46

And, you know, I kinda you know, if

51:48

if again, if if I my assumptions are

51:50

right that, you know, FRC and and Pac

51:52

West are fine. This is a shame, man.

51:55

This is really bad. It's bad for a lot of

51:57

people, a lot of investors. It's

51:59

just just not Woodward was unnecessary.

52:02

And I think, you know, look, if I wanted

52:05

to be a conspiracy theorist, my

52:07

opinion is that

52:09

the powers that be with Fed, the treasury,

52:11

whoever the the, you know, FHLB

52:14

regulators, they needed to point to

52:16

something to say, look what you did to yourself.

52:19

In my opinion, now,

52:22

actually, they're exposed because,

52:24

you know, they have all these losses, unreal

52:27

losses from what you've did, you know, from, you know,

52:29

all last three years. It's

52:31

an exposure that you subjected

52:33

them to. Again,

52:36

that would be assuming that SVB doesn't

52:38

have anything else going on, which I think they might. And I

52:40

think that's why the the the

52:42

the rats were fleeing the ship. Joseph?

52:47

I think Randy makes a really good point

52:49

about a bank around being in part psychological.

52:52

So like we discussed earlier, like,

52:54

if you work at an investment bank that serves

52:56

a bank like Randy or if if you're the bank's

52:58

management, every day you can see the

53:00

asset values of the bank But from an

53:03

outside perspective, the depositors, they

53:05

don't know. All they do, all

53:07

they do is that they see something that happened with

53:09

Silicon Valley Bank and they get scared.

53:11

Now one thing that we should note is that the banks

53:13

are having a lot of trouble right now. First

53:16

Republic and Wispak, those are all

53:18

California banks. So what could be

53:20

happening is that, you know, someone knows someone

53:22

and they they they chat with each other and

53:24

they get scared. So in that part of

53:26

the country, there seems to be concern spreading

53:29

among the public. And so they're they're to

53:32

be safe, they're going to shoot first and ask

53:34

questions later. That's right. But that

53:36

seems very much to be regional. As Randy

53:38

mentioned, and and Randy is based on the East Coast

53:40

everything.

53:41

Outside of that, California region

53:43

seems to be okay. If you

53:46

if you are driving to work

53:48

or going to see your grandma or something and you

53:50

drive past a bank branch, any

53:53

bank branch and the history of man.

53:55

And you see a line out the door, once

53:57

you've confirmed they're not giving out donuts, you

54:00

are going to get your money out of there as fast

54:02

as possible. And with

54:04

smartphones these days, which by the

54:06

way, other people made the joke I did

54:08

too, you know, apparently, you know,

54:11

Yellen does not have a smartphone because she doesn't

54:13

get how swiftly, you know, deposits

54:15

can be taken out of your bank now. It

54:17

is a new world. It's and it means the

54:19

the run can happen a lot faster,

54:22

a lot more intensely than it

54:24

ever could in history. And, you know,

54:26

that's a little bit of a

54:27

problem. You know, that, to your point,

54:29

I think Credit Suisse was blaming social

54:31

media for outstanding the the huge

54:33

bank routing credit scores that force them to

54:35

collapse basically over the weekend.

54:37

So, you know, people have smartphones

54:40

inflation up information passes

54:42

quickly, and everyone can just log in

54:44

and wire their Mariner helps really easily.

54:47

So

54:48

they're just seem to be some

54:50

some aspect of this. My my you know,

54:52

and my mom obviously knows I I deal with strictly

54:54

banks for the most part, and she about

54:56

an hour after Silicon Valley Bank

54:59

came out the news, she oh

55:01

my god. Is this gonna affect your business? I'm like,

55:04

Oh god, mom. You know, turn off social

55:06

media, turn off the TV. You know, it's it's all gonna

55:08

be okay. The other thing infer ferrets

55:10

me is that you have financial media out there

55:13

and you know, on TV,

55:15

you know, one guy in particular who named this

55:17

dog, Navidea, saying that

55:19

all these banks bought bad ass assets.

55:23

And and then it worries mom

55:25

and dad's and and grandma's because they're

55:28

at home with CNBC on

55:30

and they hear that and they panic. It's

55:32

and it's it's irresponsible to

55:35

say that because it's incredibly not

55:38

true. You're flaming the

55:40

the the flames of panic and

55:42

and you're doing so from an uneducated, unknowing

55:46

platform But you think

55:48

it's gonna get you clicks and tweets and retweets

55:51

so that's what you do. It's incredibly irresponsible

55:53

for that kind of behavior and I see that

55:56

throughout financial media and on

55:58

Fintoit, it it it's and that's

56:00

why I'm fighting against it because Don't

56:02

do this to yourselves. It's unnecessary.

56:05

You know, community banking is good.

56:07

People out there going, well, we just need to go to four

56:09

big banks or we just need to go government banking.

56:11

That's ridiculous. You have no idea what community

56:14

banking's really about until you're

56:16

on the inside of it like I am and

56:18

really see

56:19

it. Coast to coast how important

56:21

it is for community banks to

56:23

exist. What

56:25

about the rationality of

56:27

irrational behavior. If you see

56:29

a a line outside bank and you know they're

56:32

not selling doughnuts, Even if

56:34

you Mhmm. Think you would

56:36

know that the assets of the bank or or say

56:38

the bank is solvent, even if you have less

56:41

than cord million dollars, the the

56:43

limit on FDIC insurance, you

56:45

you you get up in a frenzy. And then someone says,

56:47

oh oh, Jack is up in a frenzy. I should

56:49

go up in a frenzy too. And then Cascade feeds on

56:51

itself. And, yes, everyone in Silicon Valley is on Twitter

56:54

all the all the time very plugged in. You're probably

56:56

more familiar with how to withdraw money with their

56:58

phone than

56:59

know, some people on the the East Coast.

57:01

I totally have a comment on that. I'll I'll do it

57:03

really quickly because it's it's something we should

57:06

have another podcast about. But Look,

57:09

I'll do it real fast. Bernaki's essays

57:11

on the Great Depression came down to two

57:13

things that could solve the problem.

57:16

We cannot have the visuals

57:19

of what you said of irrational

57:21

behavior. If I see a visual of

57:23

a soup line, I'm probably gonna

57:26

irrationally hunker down. If I

57:28

see the visual of a

57:30

crashing stock market, even

57:32

if I don't have any stocks, that

57:35

visual is gonna calm cause me to

57:37

be irrationally frugal. And

57:39

that is what that was Bernaki's sort

57:42

of that summary of his

57:44

his studies on the Great Depression. And

57:47

that is why, I believe, Bernacki,

57:50

when he took over said, we are

57:52

going to manage markets. We are going to do

57:54

forward guidance. We're going to do interviews. We're

57:56

going to do everything we can

57:58

to prevent the visuals of

58:01

ever occurring that something's wrong

58:03

because if we if we allow those

58:05

visuals to happen, people will

58:07

irrationally panic. And

58:10

I think that's what they're still and the problem

58:12

with that is is that the deeper you get into

58:14

that, I mean, that is the Fed

58:16

put. That is moral hazard. That

58:19

is a problem is that everybody's relying

58:21

on you to don't let me see

58:23

bad things. And as that goes

58:25

on, The bad things that should

58:27

have happened, at least in a managed

58:29

way, are not happening, and it's getting worse

58:31

and worse and worse. No. I think that's

58:33

absolutely true. But So

58:36

and we we're kinda seeing this play out right now.

58:38

Right? So so the county bank, when

58:40

Bus and now everyone is hyper concerned about

58:43

the asset portfolio of their banks and whether or not

58:45

the banks have a lot of insurance whether

58:47

or not they have a lot of uninsured

58:50

deposits So there is a feedback

58:52

mechanism that's having to play now.

58:54

And it's it's good though that we have

58:56

bad things happen every now, then that's how we know

58:59

that there are things that we need to

59:01

be careful about me to

59:02

avoid, and that's how we can fix the system.

59:04

I

59:05

think I I think what

59:07

you're gonna find out in the end game is

59:09

that I've I've I've

59:11

you know, I mean, this is sort of the clandestine,

59:14

but, you know, there are people

59:16

on Twitter in the know. You know, I

59:18

am one of those people that are in the know about

59:20

my little world. And somebody sent

59:22

me something, kinda show me the

59:24

flow of money that was around Silicone

59:27

Valley Bank, I think there's more

59:29

interesting things to come. And I think what

59:31

you're gonna find out is it had absolutely

59:33

nothing to do with uninsured deposits. It's

59:36

gonna be about things that

59:38

we were unaware of that

59:41

that that we just didn't know existed. And

59:43

it's gonna hopefully make people realize, you know, what

59:45

my deposits are fine. You know? And what

59:47

it has done though, Joseph, and this is something that

59:49

I think you'll appreciate is

59:52

that I have a guy. A

59:54

friend of mine is a big homebuilder and

59:56

multifamily single and all that. With

59:59

what's going on and he's on my email

1:00:03

blog. He called his bank

1:00:05

and said, tell me about the losses

1:00:07

in your AFS and HCM portfolio.

1:00:10

He is a large depositor. That

1:00:13

is why we're not insuring him.

1:00:15

That was the that's the spirit of

1:00:17

insuring up to a certain amount is

1:00:19

if you're gonna have more than that, we

1:00:21

need you to be invested

1:00:24

in your bank and asking

1:00:26

your directors in your context hey,

1:00:28

tell me about this risk or that risk.

1:00:31

You know, I'm gonna go to your annual meeting.

1:00:33

I'm gonna pay attention. That's

1:00:35

what we need from you. And that way,

1:00:37

you are you're part of my my

1:00:40

ability to measure what's going on. The

1:00:42

the the the regulators can't be there every second

1:00:44

day. They can't be asking these questions every second

1:00:46

day. We need your help. And

1:00:48

III so I think this idea of one hundred

1:00:51

percent ensure deposits is

1:00:53

a horrific idea. Now

1:00:56

let's see. Money money is about I

1:00:58

by my estimate, four times larger than it was

1:01:00

when we went to two fifty. So

1:01:02

so clearly, I think that number should be larger.

1:01:05

But a hundred percent, I

1:01:06

think, is what would be a horrible mistake.

1:01:09

And I know, Joseph, you've made some thoughts on that

1:01:11

as well, comments. No. You're exactly

1:01:13

right. I I think that it's good to

1:01:15

have these market mechanisms, these feedback

1:01:17

mechanisms where we can basically

1:01:19

use market forces to to

1:01:22

police actors to make sure that

1:01:24

these banks are behaving well, if

1:01:26

we were to guarantee everything, then what

1:01:28

would happen is that you would have banks go and

1:01:30

do, you know, a whole whole bunch of risky investments.

1:01:33

And that way, if the rescue events since

1:01:35

turn out well, then great. You know,

1:01:38

I'm gonna make a lot of money. But if

1:01:40

they don't turn out well and the bait goes bust, then

1:01:43

we'll have the treasury bail out all of the depositors

1:01:45

and make them whole. And it's it's kind of

1:01:47

like the another version of, you know,

1:01:50

The upside gets captured by

1:01:52

the people who own the banks and the downside is

1:01:54

the downside is is paid for

1:01:57

by by the public. We don't want that to happen.

1:01:59

And I think a bigger question is that and

1:02:02

this is so in the background,

1:02:04

we we've been talking about since your big digital currencies.

1:02:06

Right? That's all the rage in

1:02:09

many parts of the country. Many

1:02:11

parts of the world, especially in more,

1:02:14

let's say, authoritarian

1:02:16

countries like the People's Republic of China.

1:02:18

Now that we have these clamors to a

1:02:20

hundred percent insurance, we

1:02:23

can see a stronger argument

1:02:25

that people will make towards some sort of centralized,

1:02:27

central bank digital currency where we would all have

1:02:29

checking deposits at the Fed

1:02:31

rather than a commercial

1:02:32

bank. So that that's a that's

1:02:35

something that could be pump popcorn as well.

1:02:37

Help me

1:02:40

understand something which is

1:02:43

A lot of folks is saying about how

1:02:45

turmoil in the banking system could cause banks

1:02:47

to curb their lending. And when banks

1:02:49

lend a lot, that's a, you know, inflationary, inflationary

1:02:51

boom. When they cut off credit, that's a, you

1:02:53

know, deflationary and it can lead to a

1:02:56

recession. Joseph, I think

1:02:58

I first heard the idea when I talked with Steven

1:03:00

Moran. One day after emergency

1:03:02

measures, not gonna use a term bail out of FDIC

1:03:05

Fed on on that Sunday. And

1:03:07

now think it's it's become increasingly mainstream

1:03:09

as it's so much so that the Federal

1:03:11

Reserve, JPMorgan yesterday said we

1:03:13

actually expect, are we anticipating some

1:03:15

contraction in

1:03:17

credit? Obviously, Sherpa Wall watches

1:03:19

for guidance. Right?

1:03:20

Before guys, watch watch us j pal. That's for

1:03:22

sure. And I think

1:03:25

Steve's Steven's point is is really Woodward, you know,

1:03:27

it was apple bite your mouth. So

1:03:30

So banks create money out of thin air when

1:03:32

they make a loan or buy an asset. So when

1:03:34

banks create a lot of credit, we have more money

1:03:36

in the in the in the financial system,

1:03:38

more money means more demand for goods and services

1:03:40

and for financial assets. And

1:03:42

as you mentioned, Jack, that is inflationary

1:03:45

or inflationary. So but

1:03:48

whether or not a bank makes a loan is dependent

1:03:51

upon many things. One, of course,

1:03:53

you want to have profitable lending opportunities.

1:03:55

You want to have people who are willing to borrow,

1:03:58

but also the bank is concerned about

1:04:00

its own health as well. Now right

1:04:02

after the great financial crises, the banks

1:04:05

Even though interest rates were low and there was

1:04:07

demand for loans by some sectors of the economy,

1:04:09

there wasn't a lot of credit created because

1:04:11

the banks were on life support.

1:04:14

They were not in good shape. They were not in a position

1:04:16

to continue to make loans. They had a lot of bad loans on

1:04:18

their books already. Today,

1:04:20

what may be happening is that some banks are concerned

1:04:23

about their survival, Think First Republic,

1:04:25

Third, Think Pacific West, they're afraid

1:04:28

that they might have, their depositors might

1:04:30

run, and that fear might

1:04:33

put a dampened on their willingness

1:04:35

to create more loans And

1:04:37

so if that effect is prevalent,

1:04:40

we can just expect that this

1:04:42

panic in the regional banks could have a deafening

1:04:45

effect on credit creation and this economic

1:04:47

growth. And Sherpa was thinking that might be

1:04:49

equivalent. Maybe it's one or two rate

1:04:51

hikes. No one knows it's really preliminary, but

1:04:53

it has an effect adapting down the economy.

1:04:56

And so part of the reason that he thought

1:04:58

that maybe we don't need hike as much

1:05:00

as as he did before.

1:05:02

Randy? It's already happening. I mean,

1:05:04

that's what's frustrating about this. That,

1:05:07

again, I'm ahead of I get to see it

1:05:09

get way before everybody else does. And

1:05:11

because I'm talking to my banks every single day.

1:05:14

They're lending less, you know. They're or

1:05:16

the least they're gonna stable, which

1:05:18

is not inflationary. Right? As

1:05:20

long if you remain stable, you're not

1:05:22

creating new money with new debt, new

1:05:24

credit, whatever. And so the remaining stable,

1:05:28

many are gonna shrink, you know, they're gonna

1:05:30

say, you know what? We're not gonna you

1:05:32

know, loan as much. We're gonna go ahead and

1:05:34

just, you know and and a lot of those loans

1:05:36

are funded by borrowings. No. Cash flow comes

1:05:38

in. We're just gonna pay off the borrowings. Because

1:05:40

it's we you know, we're trying to manage, you

1:05:42

know, this interest margin. We're trying to

1:05:44

maybe we're gonna probably

1:05:47

grow the amount of cash we hold on demand because

1:05:49

of these issues with out flowing deposits. They

1:05:51

know this. Powell knows this. He's not an

1:05:53

idiot. That's why I think he

1:05:56

know, there's a delay to their efforts and they've done

1:05:58

so much. I think that the recent

1:06:00

hike yesterday and even if

1:06:02

I I hope not one more, but I guess

1:06:04

it doesn't matter at this point. I think it's just

1:06:06

just, hey, I want more room For

1:06:08

when I do have to lower rates, I

1:06:10

don't have to go to zero again. And

1:06:13

that's where he got caught last time. Right? Rates

1:06:15

weren't he was raising rates. And I I forget

1:06:17

how high it got, but it will. I don't know if it's two or

1:06:19

something like that. And and and then all of

1:06:21

a sudden a pandemic hits boom. We had to

1:06:23

go to zero amid zero bound immediately.

1:06:26

So I don't I don't think he ever wants

1:06:28

to do that again because it it it creates,

1:06:32

you know, a pricing dynamic

1:06:34

that causes stresses as we're seeing. So

1:06:36

I you know, I'm just telling you, man, lending

1:06:39

is is already coming down. They've done their job.

1:06:41

They just should be the adult in the room and and

1:06:43

just give it some time.

1:06:46

Yeah. Justin, how do you think this will impact the Fed's

1:06:48

rate hikes if a contraction in credit, which

1:06:50

is, you know, not anticipated, is equivalent

1:06:52

to a rate hike or two rate hike. So if

1:06:54

a month ago, the terminal rate was kinda

1:06:56

close to five point seven five percent, which

1:06:58

would mean three more

1:07:00

hikes from here. If the contraction credit

1:07:03

is two rate hikes, that means only one more

1:07:05

rate hike in May, and then and then

1:07:07

we're good. How is your outlook on sort of the

1:07:09

Joseph Wang Fed guy terminal rate changed?

1:07:13

I think it is it is impacted by this,

1:07:15

and I think that, well, Sherpelle probably is

1:07:17

right. He just probably has to stay around here

1:07:20

and hold it throughout the rest of the year. But

1:07:22

I I think another I think we have to keep

1:07:24

in mind something else as well though. So

1:07:27

monetary policy affects

1:07:29

bank credit creation and so forth, but

1:07:32

In the US, at least, credit

1:07:34

is created by banks, but a lot of credit

1:07:37

is also borrowed through the capital markets. And

1:07:39

so One thing to keep in mind is

1:07:41

that as the market right now is aggressively

1:07:44

pricing and rate cuts, and

1:07:47

the ten year is down a lot, then you could

1:07:49

see mortgage rates come down and half of mortgages

1:07:52

are funded by investors in the capital markets.

1:07:54

You can see borrowing rates by big

1:07:57

corporate borrowers come down as well, and and that

1:07:59

has a potential to reaccelerate the economy.

1:08:02

So Right now, I think that

1:08:04

the terminal rate as the Fed

1:08:06

projects in its stop clock about where we are

1:08:09

now honing it throughout the year

1:08:11

makes sense. But I actually think

1:08:13

my forecast would be tilted towards the

1:08:15

upside since the US is a lot more

1:08:17

capital markets driven. And right

1:08:19

now where there's volatility

1:08:21

in the markets, but as

1:08:24

that as that shakes off,

1:08:27

And as the market is convinced that rate hikes

1:08:29

are coming, we could see sectors in the economy

1:08:31

begin to reaccelerate, like housing,

1:08:33

which reaccelerate very quickly

1:08:35

in January once mortgages got below

1:08:38

seven percent towards five percent.

1:08:41

The Federal Reserve's discount

1:08:43

window as well as its BTFP bank

1:08:45

term funding program is getting

1:08:47

lot of uptake from banks, banks, post collateral,

1:08:49

getting that funding. As as result, the

1:08:51

bank's balance sheet is reaccelerating

1:08:54

after the sort of slow fall of quantitative

1:08:56

tightening. A lot of people saying this is quantitative

1:08:58

easing, shadow quantitative easing, What

1:09:02

do you guys think on that terminology? And

1:09:05

then is this a net stimulus to

1:09:07

the banking system in the same way that, oh, yeah, if the

1:09:09

fed buys other? Trillion dollars of treasuries

1:09:11

and mortgage backed securities that's gonna stimulate

1:09:13

financial markets and maybe the economy a

1:09:15

a little

1:09:16

bit. Joseph, yeah, what do you think?

1:09:18

No. No. That's I think that's totally wrong.

1:09:20

That's actually seriously wrong. So

1:09:23

when the big when the Fed does QE, you can

1:09:25

think of it as adding excess liquidity into

1:09:27

the system. And maybe someone somewhere takes

1:09:30

out money and goes and buys risk assets. When

1:09:32

the Fed is doing these emergency discount

1:09:34

window lending, that's someone somewhere

1:09:36

in the financial system not having

1:09:39

enough cash. And

1:09:41

so desperate that they're taking out an emerge

1:09:43

loan from the Fed. So that's not

1:09:45

gonna be money that gets thrown

1:09:47

into risk assets or, you know,

1:09:49

corporate bonds and stuff like that. So it's a

1:09:52

negative sign. It it's definitely not

1:09:54

a positive sign for for the market. And but

1:09:56

to be clear, I expect that to quickly

1:09:59

reverse this week or next week. Since it

1:10:01

was very much a temporary measure connected

1:10:03

with the desperate needs of Silicon

1:10:06

Valley

1:10:06

Bank, and probably

1:10:08

a few other related banks as well.

1:10:11

Thanks. Well, before I ask my last question,

1:10:14

Randy, could you like me are a

1:10:16

huge fan of Joseph's excellent

1:10:18

book, Central Banking 101. Can

1:10:20

you just tell us a little bit about how

1:10:22

that book helped you already, you

1:10:25

know, you know, professional well versed

1:10:27

in these matters, your understanding. In the same way that

1:10:29

it helped

1:10:29

me, who was, you know, more early on

1:10:31

in my learning journey. There we go. Yeah.

1:10:33

For for first, First.

1:10:38

Very good, Joseph. I find it right ready to go, Andy.

1:10:41

By the way, let's just you know, let's

1:10:43

look how all the highlighting, the notes

1:10:45

I took, I read it carefully. You

1:10:48

know, I will first say that,

1:10:50

you know, Daniel DeMartino's book, you know,

1:10:52

fed up is extremely important to read and that

1:10:55

was really fun because that was

1:10:57

the first really look behind the curtain

1:10:59

that I got. From

1:11:02

a Fed insider that opened

1:11:04

my eyes up to a lot of things. The number

1:11:06

one thing I learned from Danielle was how

1:11:08

little outside

1:11:12

government data the Fed was

1:11:14

getting. And she came in there and said,

1:11:16

wait a minute, having been on Wall Street, she's

1:11:18

like, wait a minute. There's so much more data

1:11:20

out there in the private sector. Why don't you

1:11:22

get that? And that's what she started

1:11:24

bringing into Dallas Fed was

1:11:26

this data that's out there

1:11:28

and available and people willing to give

1:11:30

it. And that was a big change she

1:11:33

made inside. And and it made me think, gosh,

1:11:35

they they only think in what they're

1:11:37

given. They're not really going out to get

1:11:39

more. What I learned from

1:11:41

Joseph book and I'm just obviously,

1:11:43

just a highlight. It's absolutely required

1:11:45

reading for anybody in financial markets and business

1:11:48

school. It could probably be required reading. Is

1:11:51

I knew I knew

1:11:53

that there was coordination between the central

1:11:56

banks because, you know, the

1:11:58

word transitory just does automatically get

1:12:00

used by a whole bunch of different central bankers.

1:12:03

You know, I'm trying to think of other unique words

1:12:05

they've used. And if you read particularly

1:12:08

Bernacki's the courage to

1:12:10

act AAAA

1:12:13

title for full of hubris. He

1:12:15

talks about they would spend almost

1:12:17

comically. We would spend days going

1:12:19

back and forth with emails trying

1:12:22

to choose the right word that

1:12:24

met something but could need something else.

1:12:26

And so and and all

1:12:28

of a sudden that word started getting used by

1:12:31

all the other central bank leaders. I'm like, wait a minute.

1:12:33

What this is crazy. Well, what

1:12:37

Joseph explained, I thought was amazing,

1:12:39

was the New York trading desk and you can

1:12:41

modify this Joseph for corrected. Is

1:12:44

that, you know, probably the most

1:12:46

powerful trading desk on the planet maybe outside

1:12:48

Goldman that they would

1:12:50

have you know, new traders

1:12:52

from other central banks come

1:12:54

into that desk for a period of time,

1:12:58

learn, be educated, and

1:13:00

then go out back to their perspective

1:13:02

central banks. And that that

1:13:05

clearly demonstrates that there is a lot

1:13:07

of coordination. There's a lot of communication there's

1:13:10

a lot of, like, look, you do that first,

1:13:12

then let me do this, and it and it's

1:13:15

all and I think that's important to understand

1:13:17

because then that forces us to

1:13:19

have to watch other central bank's

1:13:21

commentary around the world because it's gonna help

1:13:23

us kinda get a feel for what's

1:13:25

coming from our central bank. Not

1:13:28

for sure. There there is a lot of coordination, as

1:13:30

Randy noted, happens at all levels

1:13:32

between central banks. They they chout each

1:13:35

other regularly. When I was on the Fed's trading

1:13:37

desk, we would have periodic calls with

1:13:39

all the friendly central banks and just kinda chat

1:13:41

at what's happening, what we're hearing, and so forth. A lot

1:13:43

of information exchange goes on. And

1:13:46

I also would note that Danielle

1:13:48

did Martino's book, fed

1:13:50

up, really good read. So what

1:13:52

people don't often realize is that the information

1:13:54

you get from the Fed, it's curated. If

1:13:57

you are a journalist or if you are

1:13:59

a bank, and, you know, So

1:14:01

journalist has to say good things about the Fed to

1:14:03

maintain access a bank while they're regulated

1:14:05

by the Fed. So they definitely have to say nice things.

1:14:08

You you only get one side of the story

1:14:10

and it's heavily curated. So people like

1:14:12

Danielle Deepak, you know, both and

1:14:14

others who are no longer with the

1:14:16

Fed, they are they are good sources of information

1:14:18

about about what happens there and how they work.

1:14:21

And you, Joseph, are also an excellent source

1:14:24

of information. My final question,

1:14:26

Randy, I would love for you to square two

1:14:28

views that you've had. One is about the

1:14:30

hedging within the banking system that

1:14:33

the regional banks with whom you have

1:14:35

a lot of contact with

1:14:37

and you you are, you know, extremely qualified

1:14:39

to to share views on this.

1:14:42

The degree to which they hedge any

1:14:44

okay. Yes. The very large

1:14:46

banks, JPMorgan, Goldman Sachs, they are

1:14:49

fine with interest rate risk. They're they're don't worry about

1:14:51

them, but the regional banks, they didn't hedge And

1:14:53

but then you also say that you

1:14:56

you are less concerned about this

1:14:58

banking panic and you think that

1:15:00

you'll focus on CBC and Bloomberg should be

1:15:02

less

1:15:03

panicky. Mhmm. So can you help me square

1:15:05

those two views? Yeah.

1:15:07

Look, guys. You know, first off, let's make it clear.

1:15:10

The g subs are not community banks. You

1:15:12

you have to know that. It drives me crazy that people

1:15:14

when they talk about banks or if if they talk

1:15:17

about bankers, they talk

1:15:19

about, oh, Jamie Diamond. You know, or

1:15:21

Brian Moynihan. They're not it's

1:15:23

not the same thing, you know, at all.

1:15:25

So first remove that.

1:15:28

Next, you know, these all these regional banks

1:15:30

of any kind of size. Yeah, hedging,

1:15:32

hedging can mitigate, but

1:15:34

but that's it. It's not a panacea. And

1:15:37

so, you know, as long

1:15:39

as you don't have panic, the

1:15:43

perfect hedge for these guys on

1:15:45

all their assets is consistent cash

1:15:47

flow. And as long as they have that, they

1:15:49

will ebb and flow with these interest rate movements

1:15:52

and interest in inverted curves and all this stuff,

1:15:54

it'll be fine. They're all fine.

1:15:56

Yeah. And and Joseph has mentioned this. Banks

1:15:59

fail all the time. And and those

1:16:01

are the bad actors. They they they you

1:16:03

know, like, you know, look, in the end, in

1:16:05

the Mac would have failed anyway because

1:16:07

they went, you know, one one hundred percent

1:16:09

as far as I know, but they want a lot subprime

1:16:11

lending. And and they chose one

1:16:13

segment of the market to get into. That was not

1:16:15

a robust way to lend. And so

1:16:18

I will tell you most that's those

1:16:20

are the guys who get in trouble when they make a bet

1:16:22

on a a certain sector. There might be I

1:16:24

don't know what to say. Somebody, you know,

1:16:26

focused on one sector that could get in trouble.

1:16:28

And they exist and and they'll have their own

1:16:30

problems. The banking system on

1:16:32

the whole is perfectly

1:16:33

fine. I also think you gotta put your money

1:16:36

somewhere. You know, if you pull out from bank a, you put

1:16:38

it in bank b, there's only so much room

1:16:40

in the

1:16:40

mattress. And, you know, I think most people understand that mattress

1:16:42

is not a good place. Here's the difference

1:16:44

between. I think it's it'll help people. Between an

1:16:46

equity guy, and a bond guy.

1:16:49

Equity people, when they look at investments,

1:16:51

they first look to good. What is

1:16:53

good? What's benefit? What's the yield? What's

1:16:55

this? What's that? Good. Good. Good. Good. Then,

1:16:58

okay. Now, let's see if maybe there's something bad.

1:17:01

Farm guys are the opposite. They should be

1:17:03

anyway. I've learned to go,

1:17:05

what is bad? What if that's

1:17:07

the first thing because there's one thing that has

1:17:09

to happen with all my clients. They

1:17:11

gotta get all their money back. Okay?

1:17:14

They have to get their money back. Banks are

1:17:16

not in the business of taking bets.

1:17:18

That's you know, so lot of them really don't

1:17:20

do corporates anymore and things like that. Because

1:17:23

there is a chance no matter

1:17:25

how well rated they are, something happens

1:17:27

and they don't get their money back. That's why

1:17:29

most of it is in in

1:17:31

in on their investment portfolio. Anyways, an

1:17:33

agency government backed securities. So

1:17:36

I just want you to know, that's that is

1:17:38

my my job is to do that. But

1:17:40

I I feel my role in

1:17:42

FinSuite is that let me try to temper

1:17:45

enthusiasm. Let me try to temper

1:17:48

maybe those guys who are

1:17:50

their book is equities. It's bank

1:17:52

stocks and things like that. Well, let me try

1:17:55

to temper that little bit. At the same time,

1:17:58

they're tempering my negativity or or

1:18:00

or my worries. So I think the

1:18:02

combination of us too, don't ignore

1:18:04

either of us, I'm hoping that both of

1:18:06

us allows you to sort of develop your own opinion.

1:18:09

And and that is why I you

1:18:12

know, pretty much anything I put on Twitter I'm

1:18:14

giving to my clients

1:18:15

too. I'm saying, look, here are the things

1:18:17

I see. So be careful, you

1:18:19

know, pay attention. Right. So

1:18:21

just to conclude, Randy,

1:18:23

you were saying that the somewhat widespread

1:18:25

perception that Silicon

1:18:27

Valley Bank did a bad job of managing its

1:18:30

interest rate risk and that that is an

1:18:32

outlier in the banking system. You are

1:18:34

saying that with regard to regional banks, that is

1:18:36

somewhat untrue. Correct? I I

1:18:38

no. Actually, what I'm saying is, I don't think

1:18:40

Silicon Valley's prom was interest rate

1:18:43

risk at all. It it

1:18:45

Anything they could have done that it would only

1:18:47

been a mitigation. Based on what I've seen

1:18:49

on their port underlying portfolios, I

1:18:51

can't I I can't see their loan portfolio. Maybe

1:18:54

there's disaster there. I kinda doubt it there too.

1:18:56

I think I think the whole Silicon Valley

1:18:58

Bank was a is a very

1:19:00

strange happening with a very tight

1:19:02

community of of depositors

1:19:05

who were very close. And I kinda feel like

1:19:07

Goldman kinda made a mistake in

1:19:10

going, I guess, we gotta raise capital because

1:19:12

we're losing deposits. And they sort

1:19:14

of gave information to all

1:19:16

their depositors that they went to first

1:19:18

to say, hey, we're gonna do a capital raise. And

1:19:20

they presented the idea of, like, what

1:19:22

do you mean we got losses in in the portfolio?

1:19:25

I didn't know that. And now all of a sudden

1:19:27

it's it's a panic. So I I just

1:19:30

I think that there's such an outlier situation,

1:19:32

but as far as this this simplicity

1:19:35

of managing interest rate risk. No. That's

1:19:37

an exposure all banks have and

1:19:39

it will be mitigated by cash flow.

1:19:41

And maybe from now on, maybe they'll look at hedging,

1:19:44

but it'll still only be in mitigation. But

1:19:46

with time, they'll always be okay.

1:19:49

Thank you, Randy. On Twitter, you are at

1:19:51

at the Bond freak. Joseph, I'll give you the final

1:19:54

word. No. I'm gonna leave

1:19:56

it with Randy. That was well that. And I really

1:19:58

appreciate Randy coming on and chatting with us.

1:20:00

We don't often get people with deep expertise

1:20:02

in regional banking, and that's definitely

1:20:04

what we need to learn right

1:20:06

now. So thanks so much. Yeah. I

1:20:08

hope to be back. We've like I said, Joseph

1:20:10

presented, you know, hours and hours worth of wonderful

1:20:12

content in certain areas. So you know,

1:20:14

if you have me, we just there's so many fun things

1:20:16

that we can we can all teach

1:20:18

each

1:20:19

other, and I think that's good for your audience

1:20:21

check. Absolutely. I think we could do this

1:20:23

conversation for five hours. We will have to leave it

1:20:25

there. Randy, you are at the Bond freak on Twitter, Joseph,

1:20:27

of course, is everyone knows you are at fed guy

1:20:29

twelve. Thank you so much, and thank you everyone

1:20:31

for

1:20:32

watching. Thanks, guys. It was wonderful.

1:20:35

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