'Too big to fail' status mooted for US regional banks

5 min read
Americas, EMEA
Sunny Oh

Concerns that regional US lenders could turn into the next set of too-big-to-fail banks have increased expectations that regulators may impose additional capital requirements on these lenders, forcing them to issue a deluge of long-term debt.

Fitch estimated that, under potential new requirements, six US banks including regional lenders Capital One Financial, PNC Bank, Truist and US Bancorp could have to issue an additional US$60bn of long-term holdco debt to meet total loss absorbing capacity requirements. That would mean increasing their long-term holdco debt by around 70%.

US financial watchdogs in recent months have argued that regional banks, following a rash of consolidation in the sector, could pose a systemic risk and should therefore be subject to TLAC rules that currently only apply to the global systematically important banks.

“Regulators don’t have any appetite for bailing out banks,” said David Knutson, head of US fixed income product management at Schroders.

Michael Hsu, who, as acting comptroller of the currency, oversees national banks, floated the idea in April of imposing additional standards and capital requirements on large regional lenders. He said he was concerned that if a regional bank failed that only a global systematically important bank, such as JP Morgan or Bank of America, could come to the rescue and buy the smaller entity.

Such a "shotgun marriage," he said, would make the acquiring bank a bigger systemic risk and lead to even greater consolidation in the US banking industry.


Earlier this month, the Federal Reserve's vice chair for supervision Michael Barr, in his first public speech since taking office in July, said that the US central bank would be "looking at the resolvability of some of the other largest banks as they grow and as their significance in the financial system increases."

Regulators have not laid out a formal proposal.

Some regional lenders, however, have insisted that TLAC requirements do not make sense for their simpler, domestic-focused operations, unlike big US banks with large trading floors and global footprints.

PNC Financial CFO Robert Reilly, responding to an analyst question earlier this month on potential new capital requirements, highlighted this point: "There's not a lot of complexity to our holding company," he said. "There's not a lot of foreign operations with different jurisdictions."

While it is difficult to gauge just how much issuance would be necessary to satisfy TLAC requirements, investors said they expect issuance totals that are large enough to pressure spreads on regional bank bonds.

Nonetheless, demand for this kind of paper would likely be strong enough to satisfy any material increase in supply.

“This amount of debt would be absorbable by the markets,” said Christopher Wolfe, managing director at Fitch, who also noted the issuance was likely to be spread over several years.

Fitch's US$60bn figure is based on a scenario that assumes long-term debt requirements are the greater of 4.5% of leverage exposure or 6% of risk-weighted assets at the banks, according to an August report.

Future proofing

BNP Paribas credit analysts said in emailed comments that investors may welcome the opportunity to diversify their holdings and stock up on regional bank paper.

Indeed, the scale of debt issuance from the large US banks has meant that bond portfolios already had plenty of exposure to the likes of JP Morgan and Goldman Sachs – as opposed to Capital One and PNC.

In the meantime, some regional banks seem to be taking precautionary steps toward improving their financial resilience. This year these lenders have been issuing callable bonds, a popular structure employed by money-center banks in order to meet TLAC requirements. For example, Truist issued a US$1.5bn four-year non-call three senior note in July.

Having call features on senior debt issuance allow banks to redeem the bonds early before the instruments lose their capital treatment.

"Maybe the regional banks are seeing the writing on the wall," said Nicholas Elfner, co-head of research at Breckinridge Capital Advisors.

In addition, some of the callable bond offerings done by regional banks have included language in their prospectuses raising the prospect of more stringent regulatory requirements for these lenders, said a banker. The prospectus for Truist's four-year non-call three senior note, issued in July, said it would be eligible as TLAC capital.

“The larger regional banks have put risk factors on what it means if they're going to be held to TLAC requirements going forward," said the syndicate banker. “You’re seeing some future-proofing of documentation to the extent that there is introduction of regulatory change.”