PacWest, Banc of California aim to slash emergency borrowings

Post-merger, the new regional lender could see wholesale funding fall from $16.2bn to $2.9bn

PacWest Bancorp and Banc of California plan to drastically cut their reliance on wholesale funding after merging, betting on their combined balance sheets’ firepower to pay down most of the costly borrowing that has enabled them to navigate through March’s crisis.

The two banks had a collective $16.2 billion in wholesale liabilities as of end-June, down from $21.1 billion at end-March but still two-and-a-half times the $6.5 billion figure reported at the end of 2022. The latest balance included around $6.1 billion in Federal Home Loan Bank (FHLB) advances and drawdowns from Federal Reserve programmes, $1.3 billion of repos and $8.7 billion in brokered certificates of deposits.

 

Under a plan outlined last week, the two banks would repay $1.6 billion in brokered deposits, $4.9 billion in Bank Term Funding Program outstandings and $300 million in FHLB advances ahead of the closing of the merger expected in late 2024 or early 2024.

This would be followed, post-close, by the repayment of $1.3 billion of repos, a further $800 million paydown on FHLB funding and the wind-down of an additional $4.4 billion of brokered deposits.

 

Pro forma, the two banks put their end-point wholesale liabilities at $2.9 billion, less than one-fifth the current figure. Following the prospective paydowns, they estimated their cost of funding to fall to 2.4% from to 3.3% currently.

What is it?

The Federal Home Loan Bank system was created in 1932 as a government-sponsored facility to support mortgage lending and community investment. The system consists of 11 privately capitalised US regional banks focused on providing liquidity for member financial institutions. They act both as providers of wholesale funding and letters of credit and as buyers of mortgages in the secondary market.

The Bank Term Funding Program was set up by the Federal Reserve in response to Silicon Valley Bank’s collapse to provide liquidity to banks, savings associations, credit unions and other eligible depository institutions. The programme will be active until at least March 11, 2024.

Why it matters

As of end-June, the proportion of wholesale funding to assets was 34% at PacWest and 27% at Banc of California – unsustainable levels in the long run. Executives’ hope is for that proportion to be kept below 10% at the combined edifice, which will first require raising cash to extinguish the majority of borrowings.

The banks plan $7 billion in asset sales, spanning mortgages and investment securities. It’s a route that seems to have been working at Western Alliance Bank, which between the first and second quarter managed to cut wholesale liabilities by 40%.

The key will be to proceed faster than the Fed can crank up interest rates. Yields surging too high could erode the value of the assets the banks intend to sell. Banc of California chief executive Jared Wolfman told analysts that, in the face of a “non-interest dislocation of value”, they could afford to delay the sale’s timing. But that’s assuming a window of cooled yields eventually presents itself.

The deal is being hedged throughout against interest rate risk. The banks put in place $3.5 billion of swaptions to preserve tangible value and capital levels, and at least one portfolio – Banc of California’s single-family residential mortgages – is already under a forward sale agreement, fixing its purchase price. Nevertheless, the quicker the two banks can bring the operation to a close, the sooner they will be able to wean off emergency funding.

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