One way to think about it is that the stock market is supposed to be efficient and the market for bank deposits is not. The point of the stock market is that a lot of well-informed hedge fund managers and hard-working analysts and Reddit-reading day traders are all competing with each other to find out information about each company and use that information to determine the fair value of its stock. The price of a stock changes each second to reflect the information and views collected by the market, and if the market is working well then that price reflects the collective best guess at the long-term value of the company. In practice the market sometimes tries too hard, and stock prices bounce around more than is justified by changes in fundamental information, but this is the goal.
The point of a checking account is that you put your money there and don’t think about it. You don’t compete with a bunch of hedge fund managers to understand your bank’s financial statements; you don’t stay up late reading Reddit for clues about its business prospects; you maybe aren’t even aware of the interest rate that it pays you. A checking account is not a high-risk, high-reward financial instrument that you have spent a long time doing due diligence on. It’s just money in the bank.
Economists say that bank deposits are supposed to be “information-insensitive,” and there is a vast corporate-finance and regulatory apparatus to make that mostly true. Most people’s bank accounts, for instance, are insured (up to $250,000) by the Federal Deposit Insurance Corp., so that even if their bank is just cobwebs and fraud they still get their money back, which means that they truly don’t need to do any diligence on their bank. But also banks have capital and liquidity requirements and prudential regulation and access to Federal Reserve lending facilities, so that even if things go pretty wrong at a bank it will still have enough money to pay out its depositors, because “the depositors don’t need to worry about their deposits” is kind of the whole point of bank deposits. Lots of people — bankers, regulators, economists — think about these things, so that depositors never have to.
Now, this is not always true. The classic story of a bank run is something like “deposits suddenly become information-sensitive, and you don't want that.” One way to tell the story of Silicon Valley Bank’s collapse is that its balance sheet got pretty rickety, shareholders saw that and said “well that’s fine, you can have a bank with a rickety balance sheet as long as it keeps its deposits,” and the stock muddled along for a while. But then depositors noticed that the balance sheet was rickety, they pulled their money, and the bank collapsed instantly. In fact, depositors might have noticed the problem because SVB publicly announced a share sale, which put more focus on its problems. It actually found enough buyers for the stock at a decent price, but then had to pull the deal because so many deposits had vanished: SVB’s shareholders were less information-sensitive, briefly, than its depositors.
But the story of … the second half of this week? … in the US regional bank mini-crisis seems to be that the stocks of some regional banks are very volatile, while their deposits are not. The shareholders are reading the news and alternately panicking and rejoicing; the depositors are not reading the news and just keep their money in their checking accounts. Kind of what’s supposed to happen! Here’s the Wall Street Journal yesterday:
PacWest Bancorp, which has been hit hard since the collapses of several banks, dropped by about 50%. The stock started falling in after-hours trading Wednesday evening, after a report that it was considering selling itself.
PacWest said in a statement after midnight Eastern Time Thursday that its core customer deposits were up since the end of the first quarter, and that it hadn’t experienced any unusual deposit flows since the collapse of First Republic.
And here’s Bloomberg News this morning:
PacWest Bancorp led a rebound across US regional banking stocks after a bruising week of losses, amid signals that some of the selling has been overdone.
PacWest’s shares soared as much as 88% in US trading Friday, their biggest intraday gain ever, after multiple trading pauses for volatility, while Western Alliance Bancorp rose as much as 43%.
And:
Take Western Alliance, the Phoenix, Arizona-based bank whose shares tanked as much as 27% on Tuesday, the day after JPMorgan Chase & Co.’s emergency rescue of First Republic Bank. While the deal failed to quell investor concerns the upheaval would spread, depositors were a little less fazed: Between Monday and Tuesday, they added $600 million of cash to the bank.
“The bank has not experienced unusual deposit flows following the sale of First Republic Bank and other recent industry news,” Western Alliance said in a statement, outlining that deposits had increased to $48.8 billion.
The same was true for rival lender PacWest Bancorp., which said it experienced no “out-of-the-ordinary” deposits flows following First Republic’s sale. Through Tuesday, deposits had increased since the end of March, it said.
The stock market has been pretty panicky about these banks, but their depositors, for the most part, have not been. How do you reconcile that tension? I think there are about four possibilities.
Possibility 1 is that the stock market is correctly reflecting a risk of imminent failure at these banks, and the information-insensitive depositors are ignoring it. This would be somewhat weird. The way for that failure to happen would be through deposit flight, and if the deposits are fine and stable then it is hard to see how the banks would fail now. But one can’t entirely rule it out; the theory here is something like “the stock market knows that depositors will flee before the depositors themselves do,” which kind of is how the stock market is supposed to work.
Possibility 2 is that the stock market is overreacting, because that’s also what the stock market does. After all, these stocks got crushed yesterday and then soared this morning, without much in the way of intervening news; both moves can’t really be right. Investors decided “this is a bad week for regional banks,” and so they sold regional bank stocks, and then they realized that these banks were not particularly close to failure, and then they bought the stocks back. Bloomberg News again:
In a Friday morning note upgrading Western Alliance, Comerica and Zions to overweight, JPMorgan analyst Steven Alexopoulos said that the sell-off had fed on itself. “With sentiment this negative, in our view it won’t take much to see a significant intermediate-term favorable re-rating of regional bank stocks,” he wrote.
And here’s Alexandra Scaggs at FT Alphaville:
If a new challenge to regional banks has surfaced just this week, it’s a tough one to find. …
“The thing I can’t wrap my brain around is that we have zero evidence — and if anything we have contrary evidence — that there is still concerted deposit flight in the system”, CreditSights’ Jesse Rosenthal told Alphaville this week.
Sometimes the stock market just gets too excited, and then walks it back.
Possibility 3 is that the stock market’s fall yesterday correctly reflected, not a risk of imminent failure, but long-term business problems at these banks. The problem for PacWest, on this view, is not that it might get shut down this weekend; the problem is that some of its deposits have left and been replaced with more expensive funding, and other deposits have stayed because it has raised the interest rates it offers, and PacWest going forward will have to pay a lot for deposits and won’t earn that much on its assets and will just not be that profitable. Which is totally fine, for depositors, and for regulators: The money will still be there. It’s just bad for shareholders, and the shareholders noticed and sold the stock. My Bloomberg Opinion colleague Paul Davies writes:
Since mid-March smaller US banks have had to compete ever harder for deposit funding because of the safe-haven attractions of the biggest lenders plus the higher returns already available from money market funds. The result is a sharp rise in funding costs for lenders like PacWest.
PacWest has become more reliant on higher cost consumer and brokered time deposits, which lifted its total deposit cost to 1.98% in the first quarter of 2023 from 1.37% in the previous three months. It has also borrowed more from costlier sources like the Federal Home Loan Banks, the Federal Reserve’s Bank Term Funding Program and capital markets. Taken together these changes helped to slash its net interest margin to 2.89% in the first quarter from a fairly consistent 3.4% last year. Analysts expect it to fall further to about 2.5% on average for this year, according to data complied by Bloomberg.
The squeeze on lending margins hurts revenue and profitability. The last two quarters have produced its lowest pre-tax profits since the third quarter of 2020. Its next two quarters are forecast to be even worse.
This is the most straightforward possibility: This week the stock market noticed, not that the regional banks are failing, but that they are unprofitable, so their stocks went down. (Also they are up today, which could just be “the stock market noticed that a little too hard yesterday,” or “the stock market got a little too optimistic today,” or some combination.)
(Continued) 
Comments
The problem with this possibility is that it is a little hard to distinguish it from Possibility 1. If a bank’s stock falls 50% in a day, it’s sort of natural to panic, to read it as more “the market thinks this bank is toast” than “the market thinks that the present value of the residual cash flows to shareholders will be considerably lower than previously expected.”
That’s bad because, again, a bank run is about deposits suddenly becoming information-sensitive. One way for that to happen is that you are a depositor at PacWest, you do not pay very much attention to your checking account, and then you turn on the news and everyone is shouting that PacWest’s stock is collapsing because the market expects it to fail. You might start paying attention! Davies again: This brings us to Possibility 4. Possibility 4 is that stock investors were pushing down the prices of regional banks in order to cause them to fail. Here is a Twitter thread from Bob Elliott stating the case: The point here is not just “people are shorting these bank stocks for no good fundamental reason,” but also that this can create fundamental problems. Elliott goes on: I am temperamentally not disposed to believe any theory like “short sellers are dishonestly manipulating this stock in order to cause the company to fail,” but I have to admit that, with regional banks (unlike most companies!), that could kinda work. Banks do rely on confidence, and a plunging stock price that gets a lot of attention is bad for confidence. And people do seem to be taking this theory seriously. Reuters reports: And at Semafor, Liz Hoffman asks, “Should the U.S. ban bank short selling?” Incidentally there are stronger and weaker forms of Possibility 4. The strong form is something like “dastardly short sellers are knowingly shorting stocks of regional banks with the goal of causing panic and driving them into failure, so they can take profits.” The weak form is something like “rational market participants look at the stocks of regional banks and conclude that they are overvalued, because they honestly (correctly or incorrectly) believe that earnings will be lower or failure more likely than the market thinks, so they short the stocks, which might cause them to fail and generate profits for the short sellers.” The effect can exist with or without the intent.
“PACW + 85% today to $5.85
Believe a lot of money has both been made and lost on this one. Makes one wonder what really moves these (regional banking) markets. And who has access to what information. Simply attributable to Charles Mackay’s “The Madness of Crowds? Pardon my skepticism.”
https://www.mutualfundobserver.com/discuss/discussion/61041/pacwest-falls-50-after-hours-on-report-bank-is-weighing-sale
Not quarreling with Old Joe’s analysis of this issue. Just felt that the full text of the comment by me to which he alludes should also appear in this thread,
Matt Levine sure is a trip- I can't imagine how he can bat out columns like that almost every day. He answered your question and then some.
Interesting article about the financial audits conducted by KPMG