Ram Ahluwalia Predicts MORE Bank Failures

Ram Ahluwalia, CEO of Lumida Wealth Management, joins us for his second time on Bankless to discuss the latest bank failure and what it means for the rest of the traditional finance system. Are there more failures to come? Can crypto save the banks? Why are politicians being quiet this time around? What will Powell do next? Answers to these questions and much more in the episode. ------ 🚀 Stake with Swell https://bankless.cc/Swell ------ BANKLESS SPONSOR TOOLS: ⚖️ ARBITRUM | SCALING ETHEREUM https://bankless.cc/Arbitrum 🐙KRAKEN | MOST-TRUSTED CRYPTO EXCHANGE https://bankless.cc/kraken 🧠 AMBIRE | SMART CONTRACT WALLET https://bankless.cc/Ambire 👻 PHANTOM | FRIENDLY MULTICHAIN WALLET https://bankless.cc/phantom-waitlist 🦊METAMASK LEARN | HELPFUL WEB3 RESOURCE https://bankless.cc/MetaMask ------ Timestamps: 0:00 Intro 8:30 Season Two of the Banking Crisis 10:38 First Republic Bank 13:00 Politicians Being Quiet? 15:13 Ram's Slide Agenda 16:10 Co-Morbidities of Bank Failures 23:40 Negative Equitites 24:40 Publicly Traded Banks 30:27 The Walls Preventing a Collapse 35:40 The Banks' Mycelium Network 39:26 What's the Problem? 45:50 Commercial Real Estate 47:10 The Next 2008? 50:10 CRE Risk 53:07 Arthur Hayes Take 56:40 Balaji Take 1:01:13 Will Powell Blink? 1:03:20 How to Fix the Banks 1:09:35 How Crypto Saves the Banks? 1:12:55 Closing & Disclaimers ------ Resources: Ram Ahluwalia https://twitter.com/ramahluwalia ----- Not financial or tax advice. This channel is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This video is not tax advice. Talk to your accountant. Do your own research. Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Bankless writers hold crypto assets. See our investment disclosures here: https://www.bankless.com/disclosures

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:12Ryan Sean Adams?

  Bankless Nation, we have an episode today talking about the bank crisis, season two. David, I feel like we're about to do all of this all over again. The content that we put together back in March when the first banks started failing. Well, there was a brief hiatus, a pause, and now, last week, they resumed. The second largest bank failure since 2008 just happened last week with the failure of First Republic Bank. We talked about this on the roll-up, David, and we described it as a snowman on the right here. All these bank failures that have just happened. So who do we have on? What are we going to talk about? What is the season two characterized by so far?

• 0:54David Hoffman?

  We're bringing on now returning guest Ram Ahluwalia, who helped us navigate banking crisis season one. And it was a supremely useful episode to understand, while everyone was giving very emotional, very hot takes, Ram was able to make us feel very grounded. And so that was season one. It turns out that there's season two, and it's very different when a bunch of banks collapse inside of one local timeframe. But now, that was in March, and now we're in May, and now banks are collapsing again. So how has this changed the game is the big question that we should ask. But first, before we get into the episode, I want to talk to our friends and sponsors over at SWEL. So SWEL is a decentralized staking as a service protocol.

• 1:39David Hoffman?

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• 2:01Ryan Sean Adams?

  Absolutely. And it is also staking season. While the banks are failing, the Ethereum community is staking. Now's the time to start staking. We've gotten live with withdrawals recently, so I'm starting to get more excited about staking as well. All right, David. So we had First Republic Bank fail last week. I think the big question on my mind going to this episode with Ram is, is this a harbinger of things to come? Like, you know, when you always feel like the last domino at the fall has fallen and yet still there's another domino?

• 2:32David Hoffman?

  Right.

• 2:33Ryan Sean Adams?

  What happens after this? Things are feeling kind of shaky. And yet, last week, one of the commentary I have, which I'm going to ask Ram is like, it felt like no one was talking about this. Or it wasn't quite the hoopla we saw with Silicon Valley. Has the market just gotten used to, oh, bank failures are a thing now?

• 2:52David Hoffman?

  Bank failures are just what we do now. That's just how we live in 2023. Our banks just fail.

• 2:57Ryan Sean Adams?

  That can't be how it is. But that's what we're going to ask Ram about. Anything else on your mind as we get into this episode?

• 3:03David Hoffman?

  Yeah. It is important to note that the nature of TradFi just moves slower. Back when we were having our DeFi Pool 2 summer of 600% APYs, things in that era, in that paradigm, move really fast. So things move slower when things are just at the, you know, single-digit yields, which means, the question that I have is like, how long of a phase in the market should this be? Had some bank failures in March, now it's May. Is this 2023? There is a conversation of commercial real estate and credit risk there, which is the conversation to be had in TradFi. And so there's another thing to pay attention to, and really just overall, the paradigm of the too-big-to-fail banks and what that means for our financial markets. These are the themes. This is what we're getting into.

• 3:48Ryan Sean Adams?

  We are going to be right back with Bank Failure, Season 2. The new crisis is upon us, it seems. We're trying to make sense of this with Ram. But before we do, we want to thank the sponsors that made this episode possible, including our number one recommended exchange for 2023, which is, you know it, Kraken. Go set up an account.

• 4:06David Hoffman?

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• 5:34David Hoffman?

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• 6:59David Hoffman?

  ... in a very confusing first season. But episode one of season two of the banking crisis has just dropped. We're the second largest United States bank failure ever since 2008 has just happened. So we are here to ask Ram, how many episodes will season two have? So Ram, I will ask that first question to you. How many episodes are we going to have of the second phase of the banking crisis?

• 7:23Speaker 02

  First off, thanks for having me. I hope that this is a two-season serial and it ends with a whimper, not a bang. Unfortunately, I don't think that's the case. I think there's another one or two seasons ahead of us, especially as we get into some of the content around the commercial real estate.

• 7:42David Hoffman?

  Okay, so this is the era that we are going into. This is not just a blip on the story of United States finances. This is, so we are at the beginning of the story is what we are seeing.

• 7:56Speaker 02

  Yes, exactly. We're seeing the unfolding and it was precipitated by the most rapid pace of rate increases since 1981. And similar patterns at work, but nothing's quite the same. Similar to kind of the issues around the SNL crisis. And we're going through the interest rate part of the storm, the repricing, as you know, of these securities, which were held to maturity. And the next part of the storm will be around the credit risk, namely in the commercial real estate.

• 8:27David Hoffman?

  Yeah, so you have, um, thank you, by the way, for putting together a bunch of slides. So for the podcast listeners, this is also a YouTube video for the YouTube people that are watching live. What's up? Thank you for being here. Uh, gonna be a graphics heavy podcast episode. So Ram, thank you for coming, uh, prep for, for all the slides that we're gonna run through. Uh, but first, uh, we've done a ton of banking presses content before. So we've kind of gotten the gist, uh, long-term held, hold to maturity assets, uh, got whiplashed around by very rapid interest rate increases, all of the regional banks in order to have any sort of profitability, had to go really far out on the, the timeframe. And then the value of those bonds just got absolutely nuked when the Federal Reserve jacked up

• 9:10David Hoffman?

  interest rates. And now all the regional banks are underwater and there's a flight to safety up to the, to too big to fail banks. That's, uh, we've covered that part of that story pretty damn well. But the, the new story is what we would like to like, what is new now that we are in, in season two of banking crisis? Uh, and what is the new elements of, of this whole phase of the market? So I'm wondering if we could kind of start with that basal level of understanding as we go into your slides and as we, uh, unpack the story a little bit further, what are the new elements of the story here?

• 9:41Speaker 02

  It's an, it's an excellent summary. So I think there are a few new elements. One is the issues we saw with the earlier set of bank failures around the securities portfolio and the mark to market issues you described there. But there's another saga that's gonna unfold around the loan portfolio. So a good example of us First Republic Bank, First Republic was originating these mortgages at a two and a half percent interest rate. And of course those loans are not worth as much as they were in a low rate environment. So the repricing of the loan book is, uh, what we are navigating through. And another, uh, part of the story which has yet to unfold, we're starting to see tremors around it is

• 10:22Speaker 02

  in the commercial real estate market. So, uh, we're, we're seeing some more volatility from banks that are exposed to commercial real estate, but we haven't yet seen a bank go through receivership that had, uh, a lot of exposure to commercial real estate.

• 10:38Ryan Sean Adams?

  So Rom, I just want to get a recap because it sort of happened and I was somewhat paying attention but not fully of what happened last week, which is First Republic Bank failed. I believe that was early last week. And this is on top of in our season one, there were Signature Bank and there was Silicon Valley Bank and there was Silvergate Bank that all kind of failed in season one. Now we have season two, which is kind of kicking off with a new character arc here. It's a brief character died off, you know, the first few minutes of the season here, which is First Republic Bank. Did First Republic Bank die, fail for different reasons than the season one cast of characters? Like Silicon Valley, Signature?

• 11:20Ryan Sean Adams?

  It seems like what you might be saying is that had to do a bit with kind of like treasuries and bonds, maybe First Republic is a little bit different, but, but help us understand that.

• 11:29Speaker 02

  So there are some shared comorbidities and the common factor to all was negative equity. Now, how they got to negative equity was a bit different. So what did they have in common, First Republic Bank and the other banks? One is a high percentage of uninsured deposits. That's one. The second thing they had is a high level of unrealized losses in the hold to maturity portfolio. For Silicon Valley Bank, that was in the mortgage backed securities portfolio. For First Republic Bank, that was in the jumbo mortgage portfolio. Then the third issue that they both experienced due to these preceding issues, because people look at the financial statements, they say, hey, this bank has negative equity, is a bank run.

• 12:13Speaker 02

  You know, in the case of First Republic Bank, there was a, call it like a panic of 1905 style, private bailout. You know, that was a bailout where the big banks got together, including JP Morgan and others, and made a $30 billion deposit infusion to First Republic. And, you know, First Republic announced their earnings. They took no questions and answers on the Q and A component of the earnings call. That's rare. I don't know that I've ever seen that before. And their stock price dropped and they were put into receivership. They were acquired by JP Morgan. And as a part of those deal terms, the FDIC is providing some ring fence on the losses

• 12:58Speaker 02

  as well as financing to JP Morgan.

• 13:01Ryan Sean Adams?

  One difference I also noticed, Ram, as I mentioned this in the intro to David, was that maybe not in the financial community, in the communities you track, maybe it was a bigger deal, but I didn't hear the politicians castigating a certain group or blaming Silicon Valley tech bros or crypto people for this. And I was almost wondering if there's a social thing going on, which is like, oh, this time around, the politicians kind of want to keep this one quiet. We don't want to draw too much attention to it. And I don't know if that's just my perception, or what do you think is different socially this time around in season two?

• 13:35Speaker 02

  Really interesting question. I think there are two factors. One is First Republic probably banks these politicians. First Republic was and is now a JP Morgan, a world-class wealth management franchise. When I was at Merrill Lynch, I was actually part of the deal team that played a role in acquiring First Republic pre-crisis. We bought it for a bunch of money, then we sold it for half the price in the 2000 crisis, because we needed the liquidity. Then General Atlantic bought it. By the way, General Atlantic was also the one leading the Silicon Valley bank rescue that $500 million from Come Back To Later. You'll see the familiar cast of characters, Small World, right? So First Republic goes public, their stock goes up like 30x over 10 years, up until it doesn't, because of these mortgages.

• 14:19Speaker 02

  They did not sell those mortgages when rates were low, they could have securitized them. Now, to your point specifically, look, some of this is like, understanding the narrative. At first, it's easy to say, like, tech forward, Silicon Valley, crypto banks, they're blowing up, they don't know what they're doing, it's fast money. Now, First Republic comes a little bit closer to home. And the other factor is banks are a confidence game, in the same way money is a confidence game. All banks are doing duration mismatch, banks are borrowing short and lending long. And it's important to have public confidence in the banking sector, for all the reasons we've discussed before.

• 15:04Speaker 02

  So, yeah, they're trying to supervise and regulate and do the right interventions and not alarm the public at the same time.

• 15:14David Hoffman?

  Ram, you've got a great set of slides that we'd love to run through. So if we could get those up and running. And as we do, just the high level mapping of what we are about to go into, just the agenda, what are we gonna, what are we gonna talk about today? If you could just preview the content.

• 15:31Speaker 02

  So here, here's some of the topics, you know, what are the comorbidities of bank failure? How did we get here? I think a lot of that's been discussed. How are the banks and regulators responding? What's the next chapter in this saga for the banks around commercial real estate risk? And also critically, how to fix the banks? What's the right long-term view? And this is content I have not seen put out there. And I believe there's a very important role for crypto to directly address the issues in the banking system and make a difference to ordinary Americans. So excited to get to that as well.

• 16:08Ryan Sean Adams?

  Let's do it. Why don't we start with comorbidities? And for people who aren't in kind of the medical community.

• 16:14David Hoffman?

  I love the word code.

• 16:16Ryan Sean Adams?

  I love it too.

• 16:16David Hoffman?

  It is so awesome.

• 16:18Ryan Sean Adams?

  Why don't you explain it for us then, David?

• 16:20David Hoffman?

  Okay, so a comorbidity is when you, when someone dies for a particular reason, you look at all the diseases that they had, the underlying symptoms that they had, and you start to like associate all of the underlying reasons, all underlying diseases that somebody has for their death. And so if somebody, there's a frequent comorbidity between astero sclerosis and Alzheimer's. And so we look at the common denominator between why someone died and you like map out all the associated diseases to come up with the prognosis. How'd I do, Ram?

• 16:51Speaker 02

  It's great. Look, I'm not a doctor either, so I'm taking notes as well. Full credit to Dr. Danish on Twitter, took the inspiration from there.

• 16:59Ryan Sean Adams?

  Yeah, it's basically like, so if, you know, someone passes away, someone dies and, you know, I could look at the comorbidities related to that disease group. And I'm like, oh, well, there's high cholesterol, there's high blood pressure here. There's, you know, high levels of obesity, there's a few other comorbidities that are associated with this disease state and this death. And I'm looking at those two. So we're looking at elements that are associated with kind of unhealthy and unhealthy presentation. That's what we're looking at for, for the banks, right? So in what ways are these banks all unhealthy together as a pattern?

• 17:34Speaker 02

  That's right. So the these are the the the morbidities that are are shared in common. So if you have a high percentage of uninsured commercial deposits, then that means you've got a corporate treasurer or CFO who is at the trigger, ready to push a wire out if they feel their bank is at risk. So that money isn't sticky. It's it's fast money. The second is rapid deposit growth. Why does that matter? Because from the $2 trillion in QE, what these banks did, and there are beneficiaries that marginal liquidity, they turn around and bought these securities, which we've talked about. Those securities are underwater with the fastest pace of rate increases since 81. And that created comorbidity number three, the significant unrealized losses in the whole to maturity portfolio.

• 18:20Speaker 02

  In some cases, the unrealized losses were so much that it pushed the bank into negative equity, like Silicon Valley Bank and First Republic Bank. And these banks are also publicly traded. That creates a negative feedback loop. Because these statements are out there, you can look at the financials and you can identify what's happening. When the stock price declines, what happens? Then comorbidity number one kicks in. That treasurer looks at it and says, gee, I don't want to lose my job because I did not protect did not protect my corporate, you know, treasury.

• 18:51Ryan Sean Adams?

  Rom, let me make sure I understand this. So the first is high percentage of uninsured commercial deposits. So uninsured commercial deposits, some examples of that would be what?

• 19:00Speaker 02

  Sure. So the FDIC protects depositors up to $250,000.

• 19:04Ryan Sean Adams?

  Right. So anything above the 250K then?

• 19:08Speaker 02

  That's correct. And the other key point here is commercial. So commercial meaning like a business deposit. So Silicon Valley Bank service service commercial clients, Silicon Valley Bank serviced commercial crypto clients. First Republic Bank also had issues with a high exposure to commercial clientele as well. And the reason that matters is because that's more prone more prone to flight, you know, retail money, mom and pop and Joe six pack. They're not reading the Wall Street Journal, American Bank or Twitter.

• 19:37Ryan Sean Adams?

  Right. They're busy living life.

• 19:40Speaker 02

  That's right.

• 19:41Ryan Sean Adams?

  Okay, so all all these failures had that in common. They all had the comorbidity in common and rapid deposit growth. This was just what over what time range, the last 10 years or so, just

• 19:51Speaker 02

  Really, over the last, over the last three years.

• 19:54David Hoffman?

  Yeah, since the stimmys, right? Because easy come, easy go.

• 19:58Speaker 02

  Yes, exactly. So the stimmys, $2 trillion and of course QE, which raises the deposits at the banks. So now if you're a bank and you've got deposits, you're paying out an interest on those deposits, unless you're JP Morgan. So how do you fund the payout of the deposits? You turn around and you buy securities and you make loans. So the security purchase, the first thing you do, because it's liquid, you can just go to the open market, push a button. It takes time to make loans, find loans, underwrite loans. And so what you can see on this chart here is, you know, who was naked, who grew rapidly on the deposit growth, turnaround, bought these securities and therefore because those securities

• 20:41Speaker 02

  declined in value, there is a write down on their equity that unrealized hold to maturity portfolio became realized because they were exposed to bank runs.

• 20:54Ryan Sean Adams?

  Okay, I see the rapid deposit growth. Run the hold to maturity portfolio with unrealized losses. Run by that comorbidity with us again.

• 21:03Speaker 02

  Right. So here's how that works. So imagine you're Silicon Valley Bank. Now they took in record deposits due to a record year for venture fundraising, right? Poor Co's are depositing $50 to $100 billion in new deposits at Silicon Valley Bank. So what did Silicon Valley Bank do? They they turned around and they bought these mortgage backed securities. They bought longer duration treasuries during a low rate environment and rates went up. Now, banks are permitted to classify assets such as these securities into their hold to maturity portfolio. And you can only do that if you intend to hold to maturity. You do not have an intention to sell those assets.

• 21:49Speaker 02

  And of course, rates went up, so there were unrealized losses into that into that whole to maturity portfolio, meaning the mortgages and securities weren't worth what they had purchased them for. I should add that this is not an uncommon theme in banks. It happens, right? So whole to maturity account has been out there for decades. The issue is when the bank is forced to sell those securities, which they never intended to do. And why are they forced to sell them? They're forced to sell them because they have a bank run. People want liquidity. People want cash. First, the bank starts prioritizing. Okay, meet the wire transfer with cash, then meet the wire transfer demand with selling what are called

• 22:34Speaker 02

  available for sale securities or their trading portfolio. And then they crack the emergency glass. At the last resort, they sell whole to maturity securities and then they crystallize those losses.

• 22:51David Hoffman?

  I got it. They're selling unripened securities. Right? Yeah.

• 22:56David Hoffman?

  So this is, this is the foundation of the context of of season one and also First Republic, right? And so we're still just kind of reviewing stuff that's already happened, correct?

• 23:05Speaker 02

  Correct. That's right.

• 23:07Ryan Sean Adams?

  Okay, so just so I understand, so far, the story is a high percentage of uninsured commercial deposits, right? So this is money that's flooding in above the 250K. So we got that check, check, check with all of these failures so far. Rapid deposit growth, particularly since COVID stimulus, numbers went up really fast in terms of deposits. So check, check, check. Significant whole to maturity portfolio. That just means they bought a whole bunch of like treasuries and mortgage-backed securities that are now underwater in this environment and they're faced with a situation where they have to sell them because everybody's withdrawing. Okay? So now how about number four, comorbidity, negative equities? What does that mean?

• 23:46Speaker 02

  So negative equity is what is the result of when you sell securities in your whole to maturity portfolio at a loss. You sell those underwinds.

• 23:54Ryan Sean Adams?

  Ah, so that is number four.

• 23:55Speaker 02

  So now you cannot pretend. And say, hey, it's an HTM portfolio. We're going to hold to maturity. It's true. If you hold to maturity, those bonds are good. But in that, in the current period, they're marked below value. And you're forced to sell those securities, you incur a loss. By the way, one thing I should point out, the high percentage of uninsured commercial deposits that existed pre-COVID, that is a business model issue. So First Republic, Silicon Valley Bank, Silvergate always had a high level of uninsured commercial deposits. But these other, these other comorbidities start to present themselves. So there is management responsibility around all of this, and some banks did handle this better than others. We should come back to Silvergate later on, I believe.

• 24:39Ryan Sean Adams?

  Okay. And then the last one, I'm going to make an attempt to make a guess. The last, the fifth comorbidity here is publicly traded. So in all of these bank failure cases, they were all publicly traded. And this is basically so investors can see what's actually going on on the balance sheet. And they look at that and they're like, yeah, we're just like, oh, this doesn't look good. And so because it's completely public, it's not happening in the private space where, you know, you don't have to disclose all of this information tapping the public space. And that precipitates some sort of crisis as well. So all of these cases have been publicly traded bank companies and stocks.

• 25:13Speaker 02

  That's right. So that that sets up the vicious feedback loop. Stock price declines on some fear. Corporate treasure looks at the stock price declining. They make a decision to wire funds out to another bank. Then the next quarterly report, the bank deposits have declined. And stock price declines further. That causes other corporate treasurers to do a bank run. And that is a common factor here.

• 25:40Ryan Sean Adams?

  So this actually produces some sort of defense for banks that are not publicly traded. How many banks are publicly traded?

• 25:47Speaker 02

  Good question.

• 25:47Ryan Sean Adams?

  I mean, sorry, excuse me, the ratio of publicly traded to non-publicly traded banks is probably the better question.

• 25:53Speaker 02

  Most banks are not publicly traded. There's 4,000 banks across the United States. And the vast majority of them are small community banks. There are a couple dozen regional banks. Those regional banks are publicly traded. Then of course you have the systematically important banks which are publicly traded.

• 26:08Ryan Sean Adams?

  The big, the, the, these are all in a certain class of bank too. Would you characterize these as like midsize? They're not quite the, the small, small, but the, I mean.

• 26:17Speaker 02

  Silvergate's a community bank. Silvergate's a small bank. It was a small, small bank, you know, a couple billion dollars in, in assets. SVB Signature and First Republic, I would put as in the regional category. Yes. They're smaller. There are other regionals that are much bigger than them, but yeah, they're in the regional category.

• 26:38Ryan Sean Adams?

  Okay, Rob.

• 26:41Ryan Sean Adams?

  How does this progress from here?

• 26:43Speaker 02

  So, so first off, a few things to notice, like on this slide here, you can see that when the tide goes out, you can see who's most exposed. So there's a rhyme and a reason to which banks are experiencing these risks. It's not a random phenomenon. Why that matters is we're trying to understand is, is this systemic?

• 27:02Ryan Sean Adams?

  Right.

• 27:03Speaker 02

  Or is it a tempest in a teapot? Today, it's, I would, my thesis is tempest in a teapot. Okay.

• 27:11Ryan Sean Adams?

  This is good news, right?

• 27:12Speaker 02

  It's good news. That's good news.

• 27:13Ryan Sean Adams?

  Contains, contains chaos.

• 27:15Speaker 02

  And I don't want to be the guy that says CRE is contained to be quoted forever. Okay. We'll be, we'll get to CRE later. Because this is not yet a CRE story.

• 27:27Ryan Sean Adams?

  CRE, CRE, give it, give us.

• 27:29Speaker 02

  Commercial real estate, commercial real estate. Right. So that story has yet to unfold.

• 27:35Speaker 02

  Okay. And so we'll come back to that. But so far, there's a rhyme and a reason and a pattern which banks are having issues. And you can see the red ones are gone, put in receivership. The orange boxes have had stock price pressure the last one or two weeks. Okay? And those core mobilities are also present in that case. But it creates some comfort in that there's a finite set of banks that have these issues. By the way, this scatter plot isn't exhaustive. It's not complete. There are other banks here not shown. And sometimes the worst of the banks are not even on these charts because that can kind of create a self fulfilling prophecy. So, um, so.

• 28:14Speaker 02

  You know, we saw this chart in a prior bankless podcast. It's really interesting. So remember when we spoke last time Silicon Valley Bank had blown up Signature Bank had blown up. But now you have pressure on these other banks. So this this chart was quite prophetic. And you know, you can do this analysis to identify where the soft points in the banking system are using public data. From the call report system, all the all the banks, including private banks, are required to disclose their financials quarterly. With a lag, which is too slow to the FDA saying all those financials are public.

• 28:52Ryan Sean Adams?

  So you're not feeling so well if you're Zion Wall PACW. I don't I don't know what these actual banks are, what these ticker symbols represent. But that's a collection that are kind of circled with the same comorbid.

• 29:06Speaker 02

  Right. That's right. That's right. And it's a it's a kind of market where if there's a one false move, then you get stock price decline and you get this volatility. This is really interesting. This this slide here shows up morbidity number four publicly traded. This is an excerpt from a Merrill Lynch report on Western Alliance Bank. So they looked at the earnings and they said Western Alliance had good earnings and good fundamentals and their stock price jumped on the news and they had some pressure. Prior to their quarterly earnings release. However, the Merrill Lynch pulled the rating. They said, we don't have a view on this stuff. We're not giving you any guidance anymore. And ignore any other research we've shared on this.

• 29:45Speaker 02

  Because we don't know what's going to happen next. And this is the highlight said, quote, Western Alliance and the broader regional banking group are caught in a negative feedback loop driven by steep sell off in stock prices feeding into deposit attrition fears. And it's no longer trading fundamentals. By the way, every day, every other day, Western Alliance stock price goes up, then down, up, then down. It's kind of similar to our First Republic had gone through, although they're different institutions, different considerations, you know, around them. And events happen, right? So, you know, credit rating agencies will say, hey, we're downgrading the stock. Those events also can create pressure on the stock.

• 30:26David Hoffman?

  Right, so you you use the tempest in a teapot analogy and that that tempest is the all the fundamentals that have weakened have created fears and they have created a bank run, which have started to spiral out of control. I am not used to the idea of a bank run being contained by a teapot. And so that is a new thing to understand that a teapot, I know I'm brutalizing this metaphor here, but like is actually doing a good job of containing a bank run. So what are those walls that are keeping this thing from being totally crazy?

• 31:02Speaker 02

  It's a great question, and the walls aren't perfect. I'll tell you what the strategy of the regulators is. So the core issue is twofold. One is you have banks that have these underwater loans and securities on their balance sheet, and it's tag us hold to maturity. So if only they can hold to maturity, the banks are good. So the regulators say, all right, we're going to do two things now to prevent these bank runs. Action number one is provide liquidity to the banks, and that's the bank term funding program. That's the Fed discount window. That's the Fed home loan banks. So if you bank are getting a bank run, and you've got illiquid assets, then pledge those illiquid assets

• 31:44Speaker 02

  to the bank term funding program, the Fed discount window, and then you can get liquidity to honor your depositors. JP Morgan offered a credit facility, they're even private credit facilities, because the Federal Reserve only accepts high-quality collateral mortgages and treasuries. First Republic makes jumbo mortgages, which Federal Reserve does not accept, right? So strategy number one is liquefy the banks, provide credit facilities to the banks. Strategy number two is protect uninsured depositors. So the FDIC cannot insure all uninsured depositors. There's a deposit cap, $200,000. And what could stop all bank runs in their tracks is the FDIC, well, it would have to be Congress,

• 32:27Speaker 02

  would say, hey, all deposits are insured. Then no, bank runs wouldn't happen. Banks could hold to maturity. Congress isn't going to do that anytime soon. And so what the FDIC is doing is they're invoking the systemic risk exception.

• 32:44Speaker 02

  Even though it's a 10% of a teapot, it's kind of funny, right? So the FDIC is saying, hey,

• 32:50Speaker 02

  every bank that has failed and puts into receivership, they've insured every single depositor. And they're trying to signal to the public that your money is safe with the banks, that you can have confidence in the banking system. But they can't come out, they can't come out and say, every future bank failure, we're going to go do this, we're going to protect all uninsured depositors. And that's why Secretary Yellen kind of squirms and, you know, under congressional scrutiny.

• 33:18Ryan Sean Adams?

  Just because she, she doesn't have the authority to, to make that call.

• 33:22Speaker 02

  That's correct, but that is the playbook. So functionally, you're getting unlimited deposit insurance. That's the pattern of practice of the FDIC today. Every bank, they've protected every single depositor. My prediction is any bank failure from here, no depositor will lose any money. But legally, they cannot say that, they don't have the authority to say that. There's moral hazard questions as well, right?

• 33:47Ryan Sean Adams?

  That's what the market's assuming right now, Ron, is that we're just all assuming that, hey, like the bank failures in the past, they've protected depositors above 250K. So they're just going to carry that forward. And whether that's actual law or not, kind of the, the market is assuming wink from Yellen, that that's going to continue and all depositors are protecting, are protected thus, stopping the bank run in its tracks.

• 34:14Speaker 02

  I believe that's right with two considerations. One is if a bank has negative equity, then markets punish and they focus on the institution and you get this negative feedback loop. The second thing is no bank can withstand the bank run, not even JP Morgan, because all banks are doing duration mismatch, right? So here's a stylized example of a bank on the left-hand side. This is a bank's balance sheet. Their assets include loans, those are like jumbo mortgages, commercial real estate loans, could be loans to startups, like in the case of Silicon Valley Bank. Those loans are all liquid. And they change in price based on interest rate and credit risk. And those on the right hand side, you have these deposits which are liquid. They can go at any time.

• 34:59Speaker 02

  And when those deposits run, the bank cannot sell the assets on the left hand side of the balance sheets illiquid. So there are two things that markets are focused on. Markets are saying, hey, if a bank has a negative equity, then they're focused on it. The second thing is, if if markets detect a possibility of a bank run, even if they have positive equity, like in the case of Silvergate, we saw on that core mobility chart, they have positive equity. They'll go after it also because they can force the bank to transition from positive equity to negative equity by trying to sell loans at inopportune times or force them to default because they cannot generate liquidity.

• 35:41David Hoffman?

  The the words that you're using, Ram, have put this idea of the the markets, if the markets detect, and it's one thing I've learned in the last like 18 months of watching yields in crypto, and then also turn into yields in the banking sector, the markets and and yields as well is like this all knowing mycelial network between all the financial institutions. And when you say like the markets detect is like the eye of Sauron is like running around this mycelial network and it's like, oh, hey, how's your equity doing? Oh, is that negative equity? And then everyone piles on and then it's and then it takes down that bank and then it moves on to the next one. That seems like a very powerful force.

• 36:23Speaker 02

  I I agree. I love the mycelium analogy, by the way. It's it's exactly right. So the the eye of Sauron, the panopticon, is trying to identify the next failure. And this interesting thing where there are several banks have issues, but the markets are trying to congeal on which one's next.

• 36:39David Hoffman?

  Right.

• 36:39Speaker 02

  And then they gra and then markets will focus and gravitate towards that bank and that bank story comes to the fore. So there is like some nonlinearities around that. By the way, here's another thing. Now, markets aren't perfect and markets aren't, you know, 100% efficient. So in the case of Silicon Valley Bank, there's a slide here, I have this, November, there was a Wall Street Journal article which showed that the bank had negative equity.

• 37:08Speaker 02

  If you took all the losses in the health maturity portfolio, and you recognize those losses, you'd say it's a negative equity. So it had been out there for months. It was known. These are known issues. And here it is.

• 37:20David Hoffman?

  But the market didn't care until recently.

• 37:22Speaker 02

  Exactly. So the market chooses when it cares or it doesn't care.

• 37:26David Hoffman?

  Right, right. And the zeitgeist is now, oh, it's bank failures. We literally use the term is bank failure season. And so the market, the market is probably why we use those words like, oh, bank, bank failures back on the menu. And now the market starts to get really jittery around particular banks. But I bet you it turns into an even worse feedback loop when like short sellers start licking their chops and start to play into the sphere and it turns into just like a cultural zeitgeist set up by the underlying weakening foundations, we very weakened foundations by the whiplash interest rates that the Federal Reserve gave us all throughout 2020.

• 38:02Speaker 02

  That's right. The whiplash interest rates as well as the social media and the speed of information movement. Right. So Silicon Valley Bank had negative $1 billion of cash because all the wire transfers going out of it over a two day period. By the way, like just to put in perspective, like, you know, there are alternative histories that could have unfolded here.

• 38:20Speaker 02

  So this is SVB. You can see on the slide here, they had negative equity. On November 11th, it was in the Wall Street Journal. And then on March 8th, what happened on March 8th, Silvergate announced that they were liquidating. Now they were not put in receivership. They honored every single withdrawal. By the way, on the date of that announcement, they were still considered adequately capitalized. They had positive equity. Okay. Guess what? Guess which bank was raising money on that exact same day? That was Silicon Valley Bank. So Silvergate announces they're liquidating. That hits the Bloomberg feed. Meanwhile, Goldman Sachs is building this order book to do a capital raise for Silicon Valley Bank,

• 39:01Speaker 02

  which would have saved the bank or at least allowed them to get through to the other side and do another raise on a future day. So all those orders are withdrawn and SVB has a botched equity raise.

• 39:14Speaker 02

  So SUV blows up, two days later Signature Bank blows up. So to your point, confidence is fragile. And you know, there could have been alternative histories and their interactions with with with the stock market.

• 39:26Ryan Sean Adams?

  I want to get back to the the tempest in the teapot example because it's clear that you know, reg regulators and and the the powers that be are are trying to stem this problem and prevent this from this contagion from spreading. And the analogy to me is we talked about co-morbidities and this sort of thing is like, there's a herd, there's a herd of banks, some of the banks are sickly, right? And there's all of these predators to David's analogy, kind of the mycelium, the predator was looking for the sickly bank and it's going to, you know, attack the sick ones and cull the herd that way. But so far, the tempest in the teapot analogy is basically like, it's been the sick ones, the really sick ones, unhealthy ones that have been culled.

• 40:07Ryan Sean Adams?

  And so long as that's the case, and it's very predictable, like we can look at the herd and we're looking at on the screen.

• 40:13David Hoffman?

  It's a rational herd.

• 40:15Ryan Sean Adams?

  Yeah, we can pinpoint, oh, here's another one that's sick. Here's another one that's, you know.

• 40:18David Hoffman?

  Get him. Sure, so.

• 40:20Ryan Sean Adams?

  You know, some sort of poor creature with like a broken arm or something like this and you could see it and you could see the predators start to encircle it and you know, tackle it. It feels like a nature channel or something. But as long as that happens in an orderly fashion, that is the market, the evolutionary process, like culling the herd and taking care of things and you know, the cycle of life and all these things. So not a problem, right? Or or is it a problem, Ron?

• 40:46Speaker 02

  It's a good, it's a good summary. I don't know that that'll play out in the future. A good example is like Silvergate liquidated, even though they had positive equity because they had a bank run. And any bank is at risk of a bank run. No bank can survive a bank run. So in other words, the concern from like a public perspective is if good banks die, we don't want that to happen. If bad banks die, weak banks in the herd, then there's market discipline, there's accountability, there are more hazard concerns. If good banks start getting shot like Old Yeller in the back.

• 41:20Speaker 02

  Uh, because of, uh, you know, the, I guess we have three metaphors that work. The mushroom metaphor, the, the prey and like our lovely, you know, golden retriever. But if you, if you, if good banks start to go down because of fear, then you start to go from tempest in a teapot to systemic risk and tho- those are the concerns. And it could, you know, with, with commercial real estate, tho- those are risks. Like, you know, I was at, I was at Merrill Lynch in, in, during the financial crisis of 2008. Merrill Lynch had positive equity. You know, banks borrow from each other overnight. They have overnight funding, short, it's like a deposit borrowing from another bank overnight funding. You can withdraw at any time.

• 42:02Speaker 02

  Merrill Lynch, uh, was down to one bank funding partner, which is Bank of America. And had we no ability to roll over our funding, we would have blown up. All right. So the point is if you don't get access to liquidity, because people lose confidence in you as a bank, then you can die, even if you're positive net equity, even if you're like a good bank.

• 42:26David Hoffman?

  Okay, um, Rom, earlier this morning, uh, Jim Cramer tweeted out, "Commercial real estate isn't going to destabilize the system." So to use a, a well overplayed joke in this space, uh, because Jim Cramer tweeted it, it's going to happen, which happens to be the second part in your slides, which actually lets you know that Jim Cramer was actually on to something. So I want to turn this conversation to the commercial real estate sector and the fragility there. But first we must talk about some of these fantastic sponsors that make the show possible, especially MetaMask. This is a trad fi, uh, financial market, uh, show, but if we were using a web three, uh, show, we would have some web three, uh, jargon, and they would appreciate it if you went to them to learn about your web three jargon. Here we go.

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• 45:49Ryan Sean Adams?

  Now we are back from that C minus transition into our sponsors, but good thing we got some A plus content from Ram here. Ram, there's a new player in season two, a new player has entered the game. Commercial real estate. Why is this new player on the scene and what do they have to say?

• 46:06Speaker 02

  Sure. So, commercial real estate is the primary business of lending that that banks are engaged in, especially the regional banks. And there was a lot of commercial real estate in the low interest rate environment. You had developers that were borrowing at lower variable floating rates. Rates went up and they're going to have trouble refinancing. But the other factor is the work from home movement. So you have double digit vacancy, like 50 to 60% in downtown LA, also New York City and other major metro markets. And that matters because there's the risk of less income generation on those properties, which creates a higher likelihood of commercial real estate debt defaulting.

• 46:52Speaker 02

  The commercial real estate market is substantial. There's $2 trillion in commercial real estate debt that has to be refinanced over the next four years, $450 billion coming due this year. And the regional banks have the most exposure to commercial real estate. The mega banks don't really do commercial real estate.

• 47:10Ryan Sean Adams?

  So Ram, whenever somebody talks about there being problems with real estate credit and real estate loans, I go back to 2008. Is that the right place to go for this? Or how is this similar versus different? And again, we haven't gotten to this phase yet. You're just predicting this is, this could be the next source of contagion and bank failure. It's the next source of comorbidity risk here. But like, how is this similar or different to 2008? Because you were, you were in the trenches then. I'm sure you remember it well.

• 47:42Speaker 02

  Yeah, there's similarities and differences. And there's a slide here that describes that. But one difference is that this is commercial real estate, not single family residential real estate. You can see the differences here on the slides. The other is that 2008 was driven by securitization of these no-doc, no-income.

• 48:02Speaker 02

  Mortgages, which were then securitized again, we had the CDO squared and it was led by the biggest investment banks and the largest banks in the land. So it was absolutely systemic. It was also credit risk driven. Now here the commonalities, commercial real estate is a credit risk issue. Uh, there will be write downs on the bank balance sheets. Thus far, what we've seen are HTM losses from the repricing of mortgages and securities from rates having gone up. We will see credit risk losses on bank balance sheets because uh, some of them got over levered, the vacancy issues are not going to be refinanced their debt.

• 48:40Ryan Sean Adams?

  So overall, Ram, do you like um, do you like the position we're in now better than two thousand, than we're, we were in in two thousand eight? Are we, are we stronger? Is it comparable in some ways?

• 48:50Speaker 02

  This is a much better position than two thousand eight. In two thousand eight, the banking system legitimately was on the rocks. It was a, you know, the, the scenario could have been like a great depression. I remember the great depression started with bank runs uh, and you know, liquidity and access to deposits make the world go around, right? If, if mom and pop are thinking about do they have access to their funds in their local bank account? Then you're in a really bad state of the world because then bankruptcies and defaults happen from good borrowers that otherwise wouldn't have happened. Right? So this is a very, this is a, it's not a two thousand eight because the big systematically important banks are not at risk.

• 49:34Speaker 02

  Is there pain to come? Yes. And that pain to come, we can identify where that pain is going to be. It'll be concentrated in the regional bank sector, especially those banks that were aggressive in commercial real estate office, right? So even commercial real estate, not all commercial real estate is created equal. Uh, elderly care facilities are going to be fine, right? Medical is going to be fine. Industrial use cases are all right. It's, it's office is one and then behind that I'd say, you know, multifamily. It was like big apartment buildings.

• 50:09David Hoffman?

  Okay, Rob, I got another metaphor to add to the mix here. So we're talking about the Tempest and the teapot. This is not 2008, so the teapot is still intact, but we have this new player called commercial real estate risk. And so if we're using the idea of this like mycelial network, this is like disease calling the herd of weak banks. This disease is getting, is evolving, is getting an upgrade, kind of like how COVID like adapted and we had new strains. New strain just dropped. It is particularly targeting banks with high commercial real estate. And so the walls are still intact because it's still just banks that are focused on commercial real estate.

• 50:49David Hoffman?

  And so there's a new sector of banks that are now susceptible to this disease, which is the contagion of bank run, the bank run contagion is now going after the next weakest banks, which are the commercial real estate risk. But beyond that, walls of the teapot are still contained around the Tempest, which is why we're still calling this not 2008. How's that? How's that metaphor?

• 51:12Speaker 02

  Yeah, that's an, that's an excellent summary as well. You know, this next challenge,

• 51:18Speaker 02

  the tools that the regulators have aren't going to be as effective. And the reason why is the Federal Reserve and the Bank Term Funding Program, they do not finance commercial real estate. So you cannot create liquidity out of that.

• 51:32David Hoffman?

  So these walls have cracks in them?

• 51:35Speaker 02

  Yes.

• 51:36David Hoffman?

  Okay. I get, I get the whole not 2008 part, but I'm still getting the fear.

• 51:44Speaker 02

  That's the ending of season two cliffhanger. Now we open up season three here, but yes, no. So, you know, this is going to be a three-year process because those maturities, they take time to develop and the bank has to refinance them or not. You know, as I mentioned, you can identify the banks that have the most exposure. Those banks know which banks they are and the regulators are focused on this. Now, the regulators don't have the real time data into the loan docs and to the exposures at a granular level. You know, I think blockchain could fix that. But yeah, this is, this is, you know, it's gonna, it's not, again, it's not a 2008, it's not putting

• 52:29Speaker 02

  the US economy at risk of a major significantly negative outcome. But you know, you are seeing declines in commercial real estate lending, right? So look at this chart. Commercial real estate loan growth is close to 0%. Now, this is in the aftermath of SVB. So the, the loan officers at these banks have tightened lending, they're preserving liquidity. They're refinancing their best borrowers. That's why there's not much loan growth. And also, bank loan growth has come to a standstill as well. So the banks, particularly the regional banks, are starting to go into a crouch, in a crouch position.

• 53:07Ryan Sean Adams?

  So Ron, there's two takes I want to run by you and, and part of these are, you know, narratives that are running around crypto circles, right? The, the first is an Arthur Hayes take, which is basically this is the nationalization of the banking system is, is his high level take. And he could kind of, you know, get into this, but like, the idea of a big bank, the too big to fail banks, consume all of the smaller banks. I mean, JP Morgan just acquired First Republic, they have all of the assets. Now, these banks are basically like quasi entities of the state. They're not very private, they're almost like public, right? And so I would love your reaction to that. And then I want to run by the, the Balaji type scenario of, you know, much, much more dire,

• 53:48Ryan Sean Adams?

  where he predicts, okay, yeah, sure, Ron, maybe commercial real estate is kind of next domino to fall. But that's a ser-, like, you, you have to forecast this to the series of dominos that, that I am, which is like, yeah, that is another thing, that is another thing, then it's another thing. And it eventually leads to kind of US dollar fiat blow up, debasement, catastrophe, you buy crypto now, hurry before it's too late, like that whole end game scenario too. So first, give, react to maybe the Arthur Hayes take. Is this, are we witnessing the nationalization of the banking sector?

• 54:23Speaker 02

  Well, I would say first off, you know, Arthur's correct that banks are quasi-public institutions. There's a partnership between banks and centralized authorities like the Federal Reserve.

• 54:36Speaker 02

  Banks cannot really exist without a lender of last resort, number one, and number two, deposit insurance. That's the nature of fractional reserve banking. The only way we as a species have figured out how to make fractional reserve banking work is you have a centralized authority that can liquefy the banks and stop bank runs through deposit insurance. So that's the, so they're quasi-public institutions, absolutely true. And that's why we highly regulate them. Another key factor is, you know, banks on average have 10 turns of levers. They're more levered than hedge funds. And their leverage is coming from these deposits. And those deposits are insured by the federal government. And notice that the thickness of the deposit bar relative to the equity bar, who's got more at risk?

• 55:21Speaker 02

  The central authority rather than the equity holders. This is why if you're at JP Morgan, there are hundreds of regulators focused on JP Morgan. They could be onsite, pointing through the books, and they have broad powers to regulate banks. So in that sense, I agree with his perspective that these are quasi-public institutions. They absolutely are. These deposits wouldn't be there without deposit insurance. But, you know, I don't see nationalization on the horizon. This is going to be a private market. I do see more shotgun marriages. I do see big banks buying small banks, which is not in the public interest.

• 56:02Ryan Sean Adams?

  So not quite, it's, maybe there's a spectrum of how nationalized the banking system are. And you see the outcome as moving a bit closer towards more nationalized, but still a public-private type of relationship. Maybe there's just a bigger set of banks, there's fewer banks overall, that's what you see, more regulation.

• 56:19Speaker 02

  More regulation will happen. So when I, when I hear the term nationalized banks, I hear, is there a bank owned by the government that furnishes deposits directly to the economy and creates loans for the economy? That, that doesn't exist.

• 56:31Ryan Sean Adams?

  I see.

• 56:32Speaker 02

  That I do not expect will happen. I hope that will never happen. That would be like worse than CDBCs, by the way.

• 56:40Ryan Sean Adams?

  I agreed. Okay, so how about the Balaji take, which is basically, you know, he came out last week, he talked about sort of his 90 day prediction being short, you know, not quite right in the short run, but the long run, I'm still, I've got like 70% probability that this will happen in years. What's your take on that? Could this contagion, could this be just, you know, another domino to fall? Are we going to get a season three, season four, season five, season, and then we have kind of the, the final end game episode where like the US banking system has fully failed and we have a full reset?

• 57:17Speaker 02

  Right, just at the end of, uh, yes, exactly. There's this, there's a lot there. Let me unpack that. A few different branches of the tree we can go down and it depends on the actors at the Federal Reserve and Congress in particular. So first off, the Federal Reserve is keeping interest rates high because inflation is high. If the Federal Reserve keeps interest rates at an elevated level, then you're going to feel continued stress on the banking sector because more deposits will continue to move towards money market funds. And that's a slow drain on the right hand side of the bank balance sheet. The liquidity leaves the system. The banks are forced to sell loans at a bit of a loss. If the Federal Reserve lowers

• 57:57Speaker 02

  interest rates to reflate the bank balance sheets, that's going to be inflationary. If the Federal Reserve continues down, if Federal Reserve pivots and moves down that path, that's what you'll see. Now, I don't expect like a hyperinflationary scenario. I would expect elevated inflation. So my thesis is you see inflation higher for longer. But there are a few scenarios that this can play out, you know, for example, the rise of artificial intelligence is very deflationary and are expected to happen in the next one or two years, but at some point, you know, that's a powerful deflationary force which you all are tracking too. If there's a significant uptick in unemployment, then we might get bailed out by AI.

• 58:41Ryan Sean Adams?

  So Rom, your base case prediction here is not that we see a full cascade, complete collapse, hyperinflation type scenario, but that we have this elevated pressure release valve in the form of high inflation, higher than Powell or anybody in the Fed is maybe wants or is willing to admit. But that will be, that will be the way we, we release the pressure of this colossal level of, of debt that the entire structure is under. But it happens gradually, slowly, over, over months and years and not kind of all at once collapse.

• 59:14Speaker 02

  It's elevated inflation. The last time we saw unemployment report at 3.4%, which we saw last Friday was in 1969. Now, 1969 was the harbinger of elevated inflation in the seventies. You had record low unemployment. By the way, you also had the deployment of the Great Society programs, which are extraordinary stimulus programs. And in the world today, of course, we just exited extraordinary $2.1 trillion of the COVID Act. So I think it's a very similar pattern, but of course there are differences. We have the onset of AI, which is the deflationary force. We don't have an OPEC commodity crisis. You know, we have more national domestic produced energy.

• 59:57Speaker 02

  A lot is going to turn on what does Jay Powell do? Does he blink and lower rates, which is what markets expect him to do? Or does he hold the course and become a Paul Volcker and cause a recession? So we have to assess and reassess. It's a thing better than saying like, what's going to happen a year from, two years from now? It's good to have those views and scenarios, but there are decision points and guideposts along the way that we can measure. One of those is what will Fed policy look like? A second will be, what will Congress do? Will Congress have any fiscal stimulus or not? I don't believe they will. I don't think there's any appetite for more stimulus.

• 1:00:44Speaker 02

  So. And the other thing to take a good look at is the excess savings on the consumer's balance sheet. So recall that 2.1 trillion stimulus, you can see it on the bank balance sheets. It's burned off to about $500 billion in excess savings now. That's one of the reasons why you have elevated inflation. Until that thing burns off, I think you're still going to have elevated inflation and you're still going to have, you know, a record low unemployment. I expect that'll burn off, you know, in the sometime the next, you know, four to six months.

• 1:01:13Ryan Sean Adams?

  Ram, what do you think Powell does? Do you think he blinks?

• 1:01:17Speaker 02

  I don't, I don't think he wants to blink. He wants to stay the course. There are two things will cause him to shift course. One is a financial market dislocation, something serious breaks. The treasury market breaks, the repo market breaks.

• 1:01:31Ryan Sean Adams?

  It's not this, it's not what we've seen, it's not these bank failures, that's not enough?

• 1:01:34Speaker 02

  No, this is not enough, this is not, this is not enough. The Fed believes that they can execute a two-pronged strategy. They believe they can liquefy the banks by providing credit facilities to the banks that need liquidity and at the same time raise rates. So here's another metaphor for you. We are moving down a fast car and some of us, a lot of us actually, consumers and corporates have termed out our debt. We took out a 30-year fixed rate mortgage at a 2.5% interest rate because rates were low for a long time. So we're not sensitive to rising rates. And a lot of corporates are the same too. They're borrowing at very low rates and they termed out their debt. I mean, they have to pay back their debt for a long time. But there are other sectors of the economy that are not like that. Developers in the commercial real estate, the housing market,

• 1:02:20Speaker 02

  rate-sensitive cyclical parts of the economy, including financials. And that, so now Powell is slamming on the brakes. We've got our seatbelts on and that other sector of the economy that has those debt exposures, they're going to go flying through the window. That's what we're starting to see unfold, the CRE. And it's a tough position, right? Because, because it's harder for the Fed to slow down the economy because we all got our seatbelts. We turned out our debt. They've got to slam the banks, breaks even harder to create the effect that they want.

• 1:02:57David Hoffman?

  Okay, I see the predicament that we're in the it does the way that I've been talking about it on the weekly roll up and others is that it's like strategic toppling. So the Fed is just letting people hit the windshield and then they're just picking up their guts and then putting them back together. They're like, you're fine, but like allowing allowing the chaos to happen. Rum, at the very beginning, you talked about how there are some ways out that you have. Which has an interesting crypto element to it, which I'm curious as to how anything crypto can produce actually save something like the banks, but can you can you walk us through how to fix the banks?

• 1:03:36Speaker 02

  Sure. No, thank you for this. I think this needs important attention. A crypto needs a positive narrative to go on offense and show how we can create real world impact that benefits ordinary Americans and strengthens the safety and soundness of the banking system. That's in everyone's interest. So on the left hand side here, you can see how the regulators are handling this and their approach to this. On the right hand side, these are the real long term fix that no one's talking about and we need to talk about. One is enable private capital to add capital to the banking system. We saw this announcement. Apple is launching a savings account. Well, guess what?

• 1:04:14Speaker 02

  That's actually Goldman Sachs savings account. That billion dollars in deposits, that record deposits, that's going to Goldman Sachs, not Apple. Apple also announced in the same week that they're buying back $90 billion worth of their stock. Guess what? That is more than the losses to the FDIC reserve fund times four. Apple sitting on a war chest here. So is Amazon. So is Google. So are private equity companies. So are entrepreneurs. So is venture capital. And there's an opportunity to take this. Old aged fragile banking system built on legacy technology and revitalize it with

• 1:04:55Speaker 02

  outside capital with competition and with a digital first approach built on the blockchain. I'll come back to the blockchain in a moment, but one thing to point out is that it's illegal for a non-bank to own a bank. Doesn't make any sense. It's an old 1956 rule that mattered in a different time and place and these rules aren't norms internationally and the losses and the issues you have in the CRE bank balance sheets, they are a drop in the bucket relative to the capital that is available in private markets. I'll pause there before we get to blockchain, but I want to see.

• 1:05:32David Hoffman?

  Yeah, so basically you're saying that the tech sector ruthlessly competitive, also extremely well capitalized. What if we took those properties and put it into the aged and failing banking sector? Basically what you're saying, right?

• 1:05:48Speaker 02

  Yes, and more to that JP Morgan is petrified of the idea of Apple entering the banking system. Apple.

• 1:05:55David Hoffman?

  I would be.

• 1:05:57Speaker 02

  Absolutely. Apple has 150 million credit cards on file, more than any bank, including JPMorgan. I speak with this from knowledge as being a guy that grew up in banks, capital markets. I would go to DC. I was part of these trade groups, policy association. Like, the big banks are mortified of big tech because of capital and consumers like their technology.

• 1:06:17David Hoffman?

  Right, because they're good. I use the Apple card. It's great.

• 1:06:21Speaker 02

  Right, and I've got a Google Wi-Fi device here. Like, it's omnipresent with me. It's a channel, right? If a bank, if JP Morgan wants to acquire me, they gotta send a direct mail solicitation. Hope I open up a credit card. Here they've.

• 1:06:34David Hoffman?

  We already saw the phenomenon of social media and tech fail other banks, right? So you can just extrapolate as to what happens when somebody like Jeff Bezos or Tim Cook or, I don't know, Elon Musk. He already made PayPal.

• 1:06:51Speaker 02

  Yes, and they have enough customers, they could even create their own networks, create competition for Visa or Mastercard, which is causing merchants to pay 2% to 3% out on their margins. And these are low margins for mom and pop retailers, so.

• 1:07:06Ryan Sean Adams?

  But guys, this doesn't necessarily comfort me. Okay, so we might succeed in the end goal of like ripping out the failing fax machines that is our existing banking system, but then we're left with something that is kind of like China, where big bank and big tech have sort of merged together. And unless that's built on decentralized crypto, bankless technology, you just like, here's the new boss, same as the old boss, and you've just swapped it out.

• 1:07:32David Hoffman?

  Yeah, but this new boss isn't failing, though, so that's important.

• 1:07:34Ryan Sean Adams?

  I guess, but I don't know, like, yeah, comfort me on that. So we could move towards something that is not, that is just a bigger thing that could fail.

• 1:07:46Speaker 02

  Right. Big tech already is too big to fail. That's an issue. And it's a bargain. It's a grand bargain with the devil. The technology companies have tons of capital, but actually I'm publishing an op-ed in American Banker. It's gonna hit this week. And I speak to your point, Ryan. And one of the points I make is that you have to enable entrepreneurs and venture capital to enter the category as well, because you need more competition, you need more novel ways to approach this. And I also suggest that what these big tech companies can do is serve as a source of strength, meaning like play a role as like a backstop and enable private market, you know, competition. So look at Anchorage.

• 1:08:29Speaker 02

  Anchorage was the last de novo application that was approved by the OCC. Now, that happened through a quirk of history, because Brian Brooks, legend, was the acting head of the OCC, so he could approve that application. Guess what? It's not gonna happen again. But Anchorage is this interesting kind of web 2.5 bank, where they can interact with the blockchain, and at the same time, meet the high standards of safety and soundness and compliance that the federal regulators require. So, you know, we used to have fifteen thousand banks, like just twenty-five years ago. Now we're down to four thousand, uh, and we're gonna see less and it's getting too big to fail. Uh, and my priority number one is strengthen the banking system.

• 1:09:14Speaker 02

  Add competition, add capital, uh, and you know, these are necessary evils and trade-offs that we have to make. But I agree with your point, like we should, we should enable and encourage competition in the banking system.

• 1:09:27Ryan Sean Adams?

  So it definitely in favor of reducing the barriers to entry to, to compete against the big banks. Um, what, what, what's your take then on how crypto fits in? How does blockchain fit in here?

• 1:09:37Speaker 02

  It's such a critical role, right? So tokenization, this is the key idea. I had a thread from consensus talking about this. Putting real world assets on chain. Well, what does that do? It gives you transparency and it gives you standardization. So these banks have two trillion dollars in commercial real estate debt that they got to refinance for the next four years and they don't have enough capital to do that. They also need to sell off their CRE debt to other buyers. And right now they're selling it to other banks and the entire banking system is going through a six percent deposit drawdown. The system has a deposit drawdown. They don't have enough ability to refinance these loans. So if you can put these loans on chain, then you can broaden

• 1:10:19Speaker 02

  the market for capital to include non-bank actors. There's so many other benefits around this. You get transparency, right? You're not guessing at, does this bank have good loans or not good loans? Right now the market is trying to search, like we talked about, the eye of Sauron. Which bank has a good clean balance sheet? We can't see which loans are performing. We can't see which banks have what loan exposures in what jurisdictions. Now, there's a good question on whether that should be made available to the public, but certainly the regulator should see that. And even the bank management teams should see that. The bank management teams are using legacy technology, decades old technology through this oligopoly of what are called bank core software.

• 1:11:03Speaker 02

  And they're protected from competition. They've got the data, put that data on the blockchain, create liquidity, create transparency, create standardization. Google is spending tens of billions of dollars buying treasuries. They could pick up these CRE loans at a discount, improve their yield. You could put those assets on chain. Imagine if you had stable coins backed by real world assets that were on chain. An on-chain credit asset manager. So I think that is a compelling opportunity for crypto.

• 1:11:33David Hoffman?

  This is just get this utility out of here. I would like to return to my shitcoins.

• 1:11:40Ryan Sean Adams?

  Maybe then crypto could talk about something other than meme coins too. Maybe we have some real world use to offer the world. I think that's your broader point, isn't it, Ron?

• 1:11:48Speaker 02

  I agree. And look, it's these themes are at work and they're happening, right? So at consensus, and this is public knowledge, Wellington, one of the largest asset managers globally has a project called Spruce. They're working with AVAX and Ethereum and a couple of the blockchains to test putting loans on chain. So is SocGen. And so are other banks as well. So, you know, I think we ought to encourage that. It's a good policy focus. Enable private capital to enter the market, enable non-banks to invest and have majority control positions in banks. Not even Berkshire Hathaway can do that. And encourage technology transformation for the banks.

• 1:12:26Ryan Sean Adams?

  Very cool. Beautiful. Ron, this has been

• 1:12:29David Hoffman?

  Cool future.

• 1:12:30Ryan Sean Adams?

  Yeah, it is. It's one that I would get behind and support. Ron, thank you so much for guiding us in season two. It's a big TBD at the end of this, this season. I think we'll have to see what's in store for season three and beyond. But at the end of this, we get to maybe a way that crypto can help fix the banks, which is pretty cool. And thank you for spending some time with us today and explaining that to the Bankless Nation.

• 1:12:53Speaker 02

  My pleasure. Thank you for having me.

• 1:12:55David Hoffman?

  Of course. Tell us, tell us what you do at Lumida.

• 1:12:59Speaker 02

  So I'm the founder of Lumida. We're a private wealth advisory. We focus on alternative assets and digital assets. We believe crypto and blockchain have a promising future. If you look at the last two years, 6040 portfolio hasn't worked. Alter investments create diversity and our value prop is really two buckets. We provide service to high net worth individuals, trust, estate planning, cognizant of crypto, and investment management services. We're fiduciary, we're subject to duty of care, we don't have conflicts. And we believe in the promise of transformational technology.

• 1:13:34Ryan Sean Adams?

  I can definitely say from our experience with Rom as part of the Bankless community and in these episodes is this is someone who knows both the old TradFi world and the new frontier of crypto and DeFi. So certainly somebody to know and I'm glad you're working in this space so closely, Rom.

• 1:13:51Speaker 02

  Thank you, Ryan.

• 1:13:52Ryan Sean Adams?

  We'll end it here. Risks and disclaimers, of course. None of this has been financial advice. Crypto is risky, so is the banking system. You could definitely lose what you put in, but we are headed west. This is the frontier. It's not for everyone, but we're glad you're with us on the Bankless journey. Thanks a lot.