From the WSJ:
Unrealized losses on bonds and loans held by U.S. banks are expected to have grown in the second quarter, potentially reanimating an issue that made investors nervous earlier this year. Meanwhile, pressure on profits is rising.
A resilient economy and a steadier banking system caused market values for debt to generally fall in the quarter, reflecting expectations the Federal Reserve would keep interest rates higher for longer. At the same time, the rates banks pay on deposits and other funding sources have risen while returns on their fixed-rate assets stay low.
Unrealized losses “should be pretty close to back to where we were at the end of 2022 for the vast majority of banks,” said Richard Sbaschnig, an analyst at the investment-research firm CFRA. “It still feels like there’s some liquidity pressure on the banks, although obviously the risk of an immediate failure seems to have dropped precipitously.”
Lower debt prices reduce the value of trillions of dollars in assets that banks hold, regardless of whether they intend to sell the bonds or loans. Investors at the start of this year grew uneasy with the magnitude of these unrealized losses, which topped $600 billion following the Fed’s campaign to sharply raise interest rates in 2022.
In some cases, the losses were equal to or greater than banks’ equity, or the buffer they hold to absorb such hits. That led to a crisis that brought down three regional banks earlier this year. But the ensuing volatility gave banks a reprieve: Investors seeking safety bought Treasury debt, lowering benchmark yields and helping raise prices across debt markets, including those for banks’ fixed-rate assets.
The relative calm of the just-ended second quarter, though, has lowered the market values of many bank assets as yields on Treasury debt rose.
Two-year Treasury yields finished the quarter at 4.88%, up from 4.06% as of March 31. Ten-year Treasurys were yielding 3.82%, up from 3.49% as of March 31. Values of fixed-rate bonds decline as yields increase. Mortgage rates rose last quarter, too, as did yields on government-sponsored mortgage bonds.
“Based on the higher yield requirements by investors, you’ll see lower prices and lower fair values on securities and on loans, too,” said Frank Wilary, principal at Wilary Winn, an advisory firm that helps banks and credit unions determine fair-value measurements for their financial reports.
A resurgence of unrealized losses could raise fresh concerns about banks’ health. Many lenders also could face deposit outflows and earnings pressure.
Banks, for example, are borrowing heavily under the Fed’s Bank Term Funding Program, created after Silicon Valley Bank collapsed in March. That program had a record $103.1 billion of loans outstanding last week. Such loans, now at a fixed rate of 5.50%, must be repaid within a year and are considered a relatively expensive source of liquidity.
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The FDIC doesn’t publish fair-value data for loans, and only banks that are publicly traded are required to report such data. For the current 24 members of the KBW Bank Index, unrealized losses on loans were $120 billion as of March 31, down from $153 billion at year-end, according to a Wall Street Journal review of their filings. Before this year’s bank failures, the index had included Silicon Valley Bank, Signature Bank and First Republic, which have been replaced in the index by Goldman Sachs, Morgan Stanley and First Horizon.