OCC FinTech Charter

[JoeF]

Thanks for the detailed reply! 

I disagree almost 100%.  While your statements of fact are almost 100% true, I think you are misapplying them.  My disagreements in bullet form

1) There is no requirement that a bank must have retail deposits.  There is also no requirement that a bank must use a branch network to attract retail deposits.  You cannot take "typical" bank operating models and assume that's how all banks must operate.  Almost no industrial charters behave the way you suggest.  Almost no credit card banks behave the way you suggest.  And certainly there are plenty of banks that behave very differently from this.

2) I've seen no evidence of "bidding up" brokered or listing service deposits.  I just pulled up a brokered curve and see rates ~2% for 5 year funding.  I'm unsure what you think the brokered rate should actually be.

3)  What is the obsession on small banks?

4) I'd be curious if you could show me fintech lenders that has economic debt (not how accountants treat it like in LC's case, but actual debt) in excess of the leverage of a bank.  No one talks about mortgage originators having balance sheet leverage, so I am really unsure what your actually analyzing.  What balance sheet lender is out there operating with zero equity like you suggest?

First let me clarify a mistake, retail deposits are being bid up in listing services and other non-brokered channels.  This makes brokered deposits cheaper than retail deposits.  And yes, branch network not required, but most effective in attracting retail deposits.  That being said the Fed is willing to lend at .25-.50%, so a bank's cost of funds should be around that target rate.

Now in response to your first point, there is a problem with brokered deposits:

The FDIC has mounted a campaign to discourage bankers from accepting brokered deposits.  The justification for limiting brokered deposits was that they had contributed to bank failures by allowing banks to greatly accelerate growth, and that such deposits have less franchise value than "core deposits."  Using this pretext, the FDIC is limiting wholesale funding, imposing higher FDIC assessments and downgrading liquidity ratings when a bank is considered too dependent on wholesale funding.

To your point about industrial charters and credit card banks, they are exactly the types of institutions being affected by the FDIC.  Yes they rely heavily on brokered deposits, and almost every industrial charter/specialty bank, that likely converted to a commercial bank during the crisis or formed after, is under a Capital and Liquidity Maintenance Agreement that is very strict in terms of leverage.  Here's an excerpt from Ally's (fka GMAC bank)
    (A)    On the date of this Agreement and continuously thereafter, the Holding Companies and the Bank, will maintain sufficient capital in the Bank such that the Bank’s Tier I Leverage ratio is at least 15 percent, as calculated under 12 C.F.R. § 325.2(m), or any successor regulation.

 
     (B)    If at any time the Bank’s capital level falls below the level specified above, the Holding Companies and the Bank shall immediately restore the Bank’s capital to the required level. Any capital contributions to the Bank must be in the form of cash, short-term US Treasury securities, or other assets acceptable to the FDIC.


Regarding point 3, a small bank/limited purpose bank is a better proxy for a potentially chartered p2p lender than large universal money center bank.

[rawraw]

So we agree that small banks are a better proxy than money center banks.  Where we seem to disagree is that I do not view small banks as homogenous and there are several 'niche' type of banks within the 6,000 or so banks that fall under this small bank label.

We disagree that a bank's cost of funds should be around the discount rate.  That ultimately depends on the business model of the bank.  I wouldn't expect a bank match funding 3 year loans with 3 year liabilities to have a federal funds rate.  Perhaps it is a better proxy for savings / mmda / checking, but then again these are broad categories (much like small banks) that mask extremely different customer types (and ultimate behaviors).

We also disagree about regulatory treatment of (lets say) unique banks.  You are correct that when things go wrong, the hammer hits harder on a bank that is unique.  But I disagree that all unique banks are under orders, like you've suggested.  I've been exposed to dozens of these sort of banks (both public and private) and the majority are well rated and under no orders.  As you know, Ally had more going on than a reliance on hot money that got it in trouble and under scrutiny.

There is certainly a regulatory preference for retail funding.  But in the case of niche banks, the common playbook does not typically apply.  And by nature, the fintech charter is a niche bank.

But even excluding brokered markets, it does not take much infrastructure to run national CD specials and to fund operations that way. Or any other funding mechanisms available to banks.  According to the OCC's canary report, there are ~22 banks with more than 70% of funding from wholesale sources (which is amazingly high, industry average is 8%).  This doesn't even capture banks like Beal Bank, who of course I'd argue have zero retail funding.  The majority of these banks have persisted at these levels, because it is part of how the business model works.  My point is that there is a lot of diversity in this sector and just looking at averages or the typical community bank is misleading.