TFC - First Citizens Buys Silicon Valley Bank FDIC Loses An Estimated $20 Billion

2023-03-27 12:34:10 ET

Summary

• This morning, North Carolina-based First Citizens announced a deal to buy Silicon Valley Bank, easing some market fears over banking contagion.
• First Citizens got an FDIC loss share, a steep discount, and got to leave out $90 billion in less attractive assets from the deal.
• The market loves the deal.
• The government might not love it as much, because the massive rally in First Citizens stock makes it look like regulators left some money on the table.
• While First Citizens has a network of branches in Southern California, Bay Area-based SVB is an odd bedfellow with First Citizens' core business model serving the Mid-Atlantic and the Deep South.

After a relatively quiet weekend, the early hours of Monday morning brought a new banking announcement from the FDIC. Silicon Valley Bank has been sold to First Citizens ( FCNCA ) of Raleigh, North Carolina.

From the press release :

As of March 10, 2023, Silicon Valley Bridge Bank, National Association, had approximately $167 billion in total assets and about $119 billion in total deposits. Today's transaction included the purchase of about $72 billion of Silicon Valley Bridge Bank, National Association's assets at a discount of $16.5 billion. Approximately $90 billion in securities and other assets will remain in the receivership for disposition by the FDIC. In addition, the FDIC received equity appreciation rights in First Citizens BancShares, Inc., Raleigh, North Carolina, common stock with a potential value of up to $500 million.

The press release additionally noted that the estimated loss from the failure of Silicon Valley Bank is about $20 billion. This makes the failure of Silicon Valley Bank the costliest bank failure in US history. On the other hand, the market absolutely loved the deal, sending FCNCA stock up nearly 50% at the open.

The government is taking a historically steep loss, leading some pundits to question whether First Citizens got a sweetheart deal and whether the FDIC negotiated competently. I think this is a little harsh, as there were only a few potential bidders, and banks that bought failing competitors in 2008 ended up getting hit with billions in fines from the sins of long-gone employees of the acquired companies.

There's a very persistent lemon problem with buying a troubled bank, this is why for example the best offers for troubled First Republic Bank ( FRC ) are reportedly about $0, while the bank is still in business and trades for $10-15 per share while it awaits its final fate (note that there is little to no risk to depositors here). Still, First Citizens stock being up 40%-50% after the announcement means there definitely was some money left on the table for the government! At least the FDIC has some warrants on First Citizens.

Odd Bedfellows

Despite superficial similarities, First Citizens and Silicon Valley Bank are very different types of banks. Silicon Valley Bank was the 16th largest bank in America before failing, while First Citizens is the 30th largest bank. In terms of assets, FCNCA is just a hair smaller than Signature Bank ( SBNY ) before its failure.

The majority of First Citizens' branches are in North Carolina, South Carolina, and Georgia. However, the bank also now has a foothold in Southern California, largely brought in through its acquisition of CIT Group (CIT), owner of Pasadena-based OneWest Bank. Besides typical consumer banking, their website emphasizes middle-market banking, equipment and vendor financing, railcar financing, and payment processing. Historically, this is a conservative bank that finances conservative projects. However, they've been making big acquisitions as of late, and this deal makes them one of the largest banks in America.

Silicon Valley Bank, on the other hand, is a different animal. Their loan book has a heavy concentration of risk , difficult-to-understand underwriting, difficult-to-value collateral, etc. The kind of stuff that Silicon Valley Bank was involved in included pre-IPO financing, jumbo ARMs, " super jumbo " mortgages, venture capital, real estate development, etc.

If you read in between the lines of the FDIC press release, I think the government is stuck with all these unorthodox and potentially toxic loans, while First Citizens bought the stuff they could understand and value. Bay Area real estate (residential and commercial) is plunging, California is generally a non-recourse state with mortgages, and pre-IPO stock is lousy collateral, so these loans are terrible risks for a buyer in my opinion.

What does this mean? I'm going to go out on a limb and guess that a lender who advertises railcar financing will not be lending millions of dollars against pre-IPO stock very much. The super jumbo market for mortgages in California is now probably close to dead and First Citizens is not going to be making a bunch of loans against people's venture capital stock either. We're now seeing the early warning signs of what's likely to be a severe recession in the Bay Area, driven by credit suddenly drying up, population outflows, and a continuation of falling real estate prices that started when interest rates rose. Ultimately, the goal behind the scenes for the government here is likely to keep credit flowing to small and medium-sized businesses while letting the speculative venture capital ecosystem sink or swim.

If you want to study some history, there are parallels to this in the early 1990s recession in the US, which hit California very hard while mostly sparing the Midwest and South. The Fed almost certainly has to keep hiking if inflation comes in hot with the PCE numbers Friday and the CPI a couple of weeks, which will hammer this home for investors.

Should You Buy First Citizens Stock?

I don't see any compelling reason to either buy or sell here. The market obviously loves the deal, with First Citizens stock soaring this morning. For those who are interested in trading this, I noticed that there's also a Class B stock ( FCNCB ), if anyone knows what the difference between these is, please comment below, because there's a substantial price spread at the moment. There also are a pair of preferred issues ( FCNCP and FCNCO ) that are trading below $25 par, whatever enthusiasm for the common stock there is has not impressed the preferred shareholders nearly as much.

FCNCA trades for less than 10x estimated earnings even after selling off sharply earlier this year. Bank of America ( BAC ) and Truist ( TFC ) are cheaper on a PE basis, so I don't see a lot of relative value. There isn't much analyst coverage on the stock, despite the bank now being one of the largest in America. Price discovery always is an ongoing process, and that process has accelerated with the stock being in the news as much as it is. The stock trades for about $900 per share now, which generally drives away small retail traders and tilts the shareholder base more towards institutions. If their management wanted to get crafty here, they'd issue a stock split and it would rally some more.

Bottom Line

I don't have a strong opinion on First Citizens stock itself, but I do have an opinion on what this means for the US economy. two of the three largest banks in the San Francisco Bay Area are now massively deleveraging, pulling the rug on people who own assets that they'd like to sell to new buyers on credit. The Bay Area has less than 3% of America's population but a far greater share of its wealth . It also has some structural economic and social issues post-pandemic. Despite the government's best efforts, credit to small and medium businesses in these areas affected by bank failures is likely to be more challenging going forward. The odds of a regional recession occurring from this are close to 100%, while the odds of a harder landing nationally have increased significantly as well. In contrast to past cycles where the Fed would be cutting interest rates here, they've indicated that they'll need to hike even more, bringing interest-rate and credit-sensitive areas of the economy under even more pressure.

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