Transcription
Is it possible that banks are in a worse position right now, at a higher risk of collapse, than they were right before the Great Financial Crisis? Well, it looks like that's what the unrealized losses on bank balance sheets right now are telling us, as they are about eight times larger than they were in 2008. And it might be why the FDIC is warning of huge bank failures, with now 66 banks on its problem bank list.
If you don't know who I am, my name is Joe Brown. I'm a former stockbroker who spent years advising the top 1% on how to manage their wealth. And when I made enough money to leave that corporate world behind, I turned my attention to teaching people financial strategies that exist outside the mainstream. Things you'd never hear from your broker or financial advisor, especially things like this, where banks might be at risk of collapse.
Now, if we take a look at this chart, we can see two sections on each bar. We see a blue section that shows the held-to-maturity securities, and the yellow section which displays the available-for-sale securities. Held-to-maturity is the assets that the banks are saying they're going to hold until they mature. These are going to be bonds, in other words, debt instruments that are going to get paid back at some point. Most of these are going to be underwater. So the bank has just said, "Hey, you know what? We're going to keep these. We're not going to sell them at a loss. We're just going to keep them until that bond matures, they pay us back in full, and then we get our money back and go along like nothing ever happened."
Right now, we can see based on that blue section, we've got massive unrealized losses on those held-to-maturity securities. Given the fact that the bank is saying, "We're going to hold these until they mature," the banks are saying there's no problem here. But if for some reason they were forced to sell them before they mature, they'd be taking a huge loss.
However, we are also seeing massive losses on the available-for-sale securities, which means banks have certain assets that are available for sale. They're not planning on holding them until maturity, and those are showing big losses as well, meaning if they were to sell them right now, they'd be selling them at a lower price than what they bought them for. You can see based on the amounts that currently have unrealized losses, it's about eight times higher than it was at the peak before the Great Financial Crisis.
Now, following the start of the Great Financial Crisis, we saw a massive number of banks that the FDIC added to its problem list, and those began to decline throughout 2012, '14, '16, and '17, until a sudden small spike up in 2018. There was a brief spike in 2022 that resolved itself largely from the Federal Reserve's Bank Term Funding Program. But now, during 2024, we have seen the number of banks added to the problem list start to increase again, as the FDIC just recently added 66 new banks.
Now, it's funny that history sometimes follows a pattern with these things. And so I'm going to show you a chart from the FDIC themselves that shows the pattern of bank failures. You can see in 2001 through 2004, there are relatively few bank failures with relatively few assets lost. The blue bars are the total assets lost, and the pink bars represent the number of bank failures. In 2005 and 2006, banks were over-gorging themselves on excess leveraged risk with mortgage-backed securities, and during that time, there were no bank failures. We can see though, in 2008, there was a massive spike in assets lost with a few banks that failed. And after that, the assets lost declined each year, but the number of banks that failed and closed, collapsed, spiked to astronomic heights before it started to decline after that.
And what seems like an odd repeat of history, in 2021 and 2022, we also saw zero bank failures and zero assets lost, just like in '05 and '06. And just like before, it was when banks were gorging themselves on excess leverage, this time buying up US Treasuries at insanely low yields, massive leverage, right before the next wave of bank failures was about to start. And in 2023, we saw that pattern begin again with massive assets lost, primarily from Silicon Valley Bank, with only a few banks failing, leading us to expect that the next couple of years would result in a lot of smaller bank failures with less assets lost. But things might play out differently this time.
So we have to ask, why did things happen that way last time? And is there a reason why they might happen differently today? So first, we have to understand exactly how banks work. When you deposit money in a bank account, you are giving that bank a loan. You are a creditor to the bank. They owe you dollars back. You are the lender, they are the borrower. If they did nothing at that point, they would go out of business because they can't just hold onto your money and pay all of their executives fat bonuses, keep the lights on, pay for the real estate. They've got to do something with that money they borrowed from you in order to turn a profit.
So what do they do? They turn around, they buy assets. Now, these assets are all loans. In other words, they take your dollars and they loan them out to somebody else. Every time they make a loan, that dollar then goes into somebody else's bank account. That is a new deposit. In other words, a new loan for a new bank that that bank has to turn around and take those dollars and loan it out to somebody else.
This means that on your computer screen or your phone screen, when you look up your bank balance and it shows you you've got 10 grand in your checking account, none of that's actually there. That's all been loaned out. And the next person in line that got those in their bank account from those loans, that money is not there either. That's been loaned out again. This is the process called rehypothecation, in which everybody's bank balances are just vaporware. They're not actually there. It's dollars that have been loaned into existence time and time and time and time again. And if you and everybody else at your bank go and try and get your dollars back, you won't be able to. They're not there.
The bank keeps a very small fraction of all deposits in reserves. But if more than that gets requested for a withdrawal, a bank run happens, and usually that causes a collapse of the bank. That is, unless the bank has a way to quickly get rid of all of its assets in exchange for cash so that it doesn't have to take a loss and can redeem all of the deposit withdrawal requests.
And with some not-so-subtle foreshadowing that may already be here, let's go back to the chart of the FDIC's bank failure list so that we can see this pattern hasn't exactly started to unfold the way that we would have expected by now. We can see that in 2024, there were only two bank failures with a very, very small number of assets lost. Going back to the pattern that we would have expected, we would have expected to see some major assets lost and quite a few bank failures if the pattern were to be unfolding the same way as it did last time. Now, that could still be coming in later years, but at least so far, the pattern has been interrupted.
This is odd because the bank losses that are currently on their balance sheets are actually way larger than they were before. As we can see, this tiny-looking blip in retrospect is what caused the Great Financial Crisis, is what caused the bank bailouts, is what caused all the money printing, is what caused everything that started this domino effect of financial engineering that we're experiencing today. And yet, the bank losses on their balance sheets are so massive in proportion that it makes that look like a blip, barely even registering on the chart.
So why in the world do we see all of these crazy, crazy losses right now? During 2020 and 2021, a couple of things happened. Number one, interest rates were basically at zero. This meant the US government could borrow and binge on debt like crazy for very low cost. But what happens when the government borrows? They spend that money, and where does that money go? Into bank accounts. And what is a deposit in a bank account to the bank? It's a loan. So as the government borrowed and spent money, it forced trillions of dollars of deposits to hit banks, which meant they had to turn around and buy up a bunch of US Treasuries. They didn't care that those Treasuries were at extremely low rates. They just cared that they were putting that money to work.
Low interest rates on bonds meant that the prices of those bonds were as high as they could possibly go, which meant that buying US Treasuries in 2020 and 2021 was all risk, no reward. But it's a US Treasury. The worst thing that could happen is that they're forced to hold those Treasuries until maturity so that they get their guaranteed money back. But as we saw in 2023, there were a few banks that were not able to hold their Treasuries until maturity. There was a bank run. People went to the banks, tried to get all their cash. The cash wasn't there. It had been loaned out to the US government. But the bank couldn't sell those Treasuries in order to give the money back because those Treasuries were at a loss.
This is what prompted the Federal Reserve to roll out a few programs to stop that from happening in the future. And we're going to take a look at that in a moment because it is the key that makes all the difference. By the way, I've got a very important event coming up that you need to know about. If you've been following this channel for any length of time, you know that I'm a huge fan of something called asymmetric trades. These are tiny trades that have the potential to turn into huge wins. I've personally used these types of trades to take home massive returns in my own personal accounts. And now, I believe I have spotted one of the best asymmetric trade setups of all. It's called the Election Chaos Trade. This is a very simple strategy that could allow you to profit from the chaos of the upcoming election. And I think it's a great way to protect your portfolio and set yourself up for a big return, regardless of who wins the election. And here's the best part: this trade can pay off whether the market goes up or down, which makes it the perfect fit for an asymmetric trade. If you're interested in seeing how this works and why I believe it could be the biggest asymmetric trade of the year, then click the link in the description below and register for my free Zoom call on Sunday, November 3rd, at 7:00 PM Eastern Time. I will be covering all the details. Look forward to seeing you there.
But first, it is also important to note that banks' net income right now actually looks pretty good, despite the fact that banks are sitting technically on a huge pile of unrealized losses. They're still making income from that because the US government is paying the interest on its debt to banks. And as it stands, the amount that banks are making from that interest is more than they are paying out to depositors. And so, on net, even though if banks were forced to sell everything they own right now, they would be taking a big hit, they don't have to sell everything right now. Outside of a bank run, which means they can sit on it, collect the income, and pay out less income than that to depositors. And right now, that means their net income is in a really good position.
Now, is this every bank? Absolutely not. There are certainly plenty of banks that are in terrible positions right now. Small regional banks, overexposure to commercial real estate. Heck, there's a reason why Bank of America has Warren Buffett dumping its shares like it's a crazy ex-girlfriend it's trying to get away from. And of course, a bank the size of Bank of America is not going to be allowed to fail. But there are plenty of small banks that are too small to bail, get it? As opposed to too big to fail.
So this video is by no means trying to convince you that the entire banking system is completely safe and you should just throw all your money in there and bury your head in the sand. Never, ever, ever keep more than $250,000 at any bank. Prioritize investing over saving, and make sure you're getting paid an interest rate on your cash that's at least the rate of inflation. But the risk of a bank run is nowhere near as dangerous as it was even a year ago, and definitely not as risky as it was a decade ago. And that's because of the stealthy, behind-the-scenes transition to increase the fungibility between reserves and Treasuries.
What in the world am I talking about? First, what does fungibility mean? Fungibility basically means that they are completely interchangeable and have no qualitative difference. So dollars are fungible. There is no difference between your $1 and my $1. They can be interchanged, have the exact same qualities, exact same value, exact same capabilities and characteristics. Bitcoin is completely fungible. My Bitcoin is no different than your Bitcoin. They could be swapped out. There is no difference. Shares of a stock are completely fungible. If I own 100 shares of Apple, that's the exact same thing as your 100 shares of Apple. They can be swapped, and there is no difference in value or in quality.
There are other things that are non-fungible. Things like cars. Even if they're the exact same make and model and year, there are differences in use that increase or decrease their quality. Things like homes are non-fungible. Even if they're the same floor plan in the same neighborhood, they might have different colors, different upgrades. And historically, things like Treasuries and reserves were non-fungible for banks, meaning they were not the same thing and could not be treated similarly. A Treasury was an asset, and you had to look at that through a lens of risk versus your reserves was just what you keep in reserves. Which means, in the past, if you're a bank and you have a bank run, everybody tries to take their money out, you have to dump all of your assets at the current market value for those assets. Which means if you have to sell those assets at a loss, you may not have enough money to redeem all those withdrawals. In other words, you fail, collapse, go under, zero, end of story.
But the Federal Reserve over the last two years or so has been rolling out a series of changes, slowly but surely, setting the precedent for increasing the fungibility between reserves and Treasuries. The Standing Repo Facility, the discount window and trying to decrease the stigma for banks using the discount window, and most importantly, the Bank Term Funding Program, which did end but could be brought back and could be brought back permanently, like some previously temporary facilities have been brought back permanently. These are all ways that give banks the ability to sell underwater Treasuries to the Fed for full price or close to it.
Just for clarification, that means if I'm a bank and I spend $100 on Treasuries on the open market, a year later that Treasury is worth $70. Suddenly, I am in a position where I have to sell that thing so I can give some money back to somebody that I owe, in other words, a depositor. I could only sell that on the open market for 70 bucks. I could go to the Fed and sell it for its full price, $100. That gives me the ability to return the full $100 to the depositor.
This essentially turns Treasuries into reserves for banks. For the banks, it is a head-eye win, tails you lose situation because they get to buy Treasuries at any price with your money. They get to keep all the income from that. If the purchase was bad, if the purchase was too much, if it was too risky, if the asset had too little income, no worries at all. That asset becomes worth a lot less on the open market. They don't care. They can turn around and sell it to the Fed for full price. This would be like you purchasing a rental property, putting a tenant in it, realizing later that you have to sell the property because you're not making enough cash flow from the tenant to cover your mortgage. You try and sell it and realize you bought this thing for $500,000, but on the open market now it's only worth $300,000. No worries, just go to the Fed, sell it to them for $500,000, the same price you purchased it for. All the upside, none of the risk.
But the banks are not even the biggest winners here. The government is. Here's where it gets crazy. A full transition here, which I need to be clear, we are not there yet, but we are slowly but surely marching this direction. The Federal Reserve no longer needs to be the one to do quantitative easing. Banks at this point turn into the stealth money printer. All we need is one more simple change that we could enact at any point that lifts the restriction on how many Treasuries banks can buy. Because right now, Treasuries are viewed as an asset that carries risk. But if they have the ability to offload that Treasury to the Fed for full price at any point, they no longer have to look at that through the lens of risk. Which means they no longer need to have any limit on how many Treasuries they can actually buy.
This is stealth QE. And because it's being done through the banks on their balance sheets, it's actually a lot less visible than the Federal Reserve doing it. Now that the Fed is so much in the public eye. And this is not some crazy conspiracy theory. This is already something that has been discussed as a potential for solving liquidity problems in the Treasury market in the future. At that point, the government gets unlimited funding from the banking system. The government can borrow literally any amount they want, selling as many Treasuries onto the market as they want, because banks are there to scoop it all up because it's just free income for banks and no risk. Because if push comes to shove and a bank run happens, they can always offload them at full price to the Fed. Banks get income without risk, government gets unlimited borrowing, and the Fed gets to look like they're saving face because their balance sheet stays the same. Win, win, win, right?
Except we all know that there is no free lunch. Somebody's going to be footing the bill for it. And in reality, this bill is going to be footed by people who care about prices. Because as we discussed earlier, all dollars are loaned into existence. So an unlimited lending machine to the government for unlimited borrowing spends new money into existence, driving up the money supply, gets spent on goods and services, driving up the prices for consumers.
The good news is that those of us who are paying attention know that inflation drives up asset prices as well. And so to protect yourself, you can purchase assets. And in a world where money is easy and infinite, you want your assets to be hard and scarce. Just make sure to stay uncorrelated, hedged when appropriate, and take advantage of extreme moves in the market on the rare occasions that they happen.
And finally, don't forget to sign up for the Election Chaos Trade event. Link is in the description below. As always, thanks so much for watching. Have a great day.