On March 17, 2023, Silicon Valley Bank filed for Chapter 11 bankruptcy protection. Evaporating asset values and a tsunami of depositor withdrawals forced a Federal Deposit Insurance Corporation (FDIC) takeover and the failed institution’s subsequent sale to First Citizens Bank. These corporate actions beg the special situations investing question; What is special situations in banking?
What Is Special Situations In Banking?
Special situations in banking are specific events or corporate actions that affect the operation and overall fiscal health of banking institutions. Value creation in the sector is driven by special situations investors who analyze and capitalize on these corporate actions to generate attractive, relatively low risk gains.
The following events are illuminating answers to the question; what is special situations in banking?
Recapitalization
Regulatory metric underperformance, investment losses, and inordinately high depositor withdrawals can force a bank to undergo recapitalization or restructuring. Lenders and investors provide funding and precipitate debt restructuring to shore up sagging balance sheets and restore stability.
Merger and Acquisition
Banks may initiate a merger for the positive benefits of synergy and advantages of economies of scale. Mergers can also act as a life preserver to a fiscally drowning institution if it merges with a stronger company. Special situations investors seek mergers and banking acquisitions for an opportunity to profit from event driven strategies.
Distressed Assets
Underperforming investments and non-performing loans can litter a bank’s balance sheet. Investors see these distressed assets and debt as opportunities to be purchased at a discount and look to profit from asset liquidation or market mean reversion.
Capital Issuance
Banks raise capital for a myriad of reasons, such as to strengthen the balance sheet, replenish regulatory reserves, and support internal and external growth initiatives. Investors participate in new security and debt issuances, equity offerings, and private placements as forms of special situations investing.
Regulatory Compliance
Regulatory requirements can cause sanctions and compliance enforcement action related to material audit conditions, reserve deficiencies, and risk management concerns. These challenges are closely monitored by special situations investors to assess the bank’s overall financial health and determine if these conditions are event driven catalysts.
Corporate Governance
Banking operations can be adversely impacted by management shake-ups, shareholder and environmental activism, and governance challenges. Investors with substantial security holdings may consult and collaborate with directors, board members, and management on accretive strategies to unlock shareholder value.
What is special situations in banking? Special Situations investing in banking offers a profitable blend of potentially over-sized returns, diversification, and value creation. This event driven strategy is resilient to the market turbulence shrink-wrapped in an economic downturn due to its dependency on catalytic events and not on market trends.
Corporate driven events which provide lenders and special situations investors with a mispriced, short-term profit opportunity with relatively low risk is a fitting answer to: What is special situations in banking?
Banking special situations investing promotes regulatory alignment through investor-led restructurings and recapitalizations. The capital deployment flexibility of special situations investing enables investor adaptability in funding diverse opportunities across different market environments. These positive externalities are not only beneficial to investors but to the banking industry, as well.
Read next: Why Invest in Special Situations?
