Latest / Scaling Up with Fexingo: How Small Businesses Become Mid-Market Companies / How Regional Bank Survived Credit Crunch
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- Lucas: The defining characteristic of a credit crunch isn't just that money gets expensive. It is that the plumbing of the financial system starts to leak from the bottom up. In late twenty twenty two and early twenty twenty three, we watched several mid-sized banks fail not because their loan books were toxic, but because their balance sheets were mispriced against a rapidly rising rate environment. Luna: Exactly. And the irony was that these weren't reckless lenders like some of the mega-banks had been in two thousand and eight. They were conservative. So what went wrong? Lucas: It went wrong on the asset side of the yield curve. These institutions took the massive deposit inflows from the pandemic era and parked them in long-dated Treasuries and mortgage-backed securities. When the Federal Reserve hiked rates aggressively, the market value of those bonds plummeted. The problem wasn't the cash flow. The problem was the unrealized losses sitting in available for sale portfolios. Luna: Right, so they were solvent on paper but illiquid in practice when depositors started pulling out. Lucas: Precisely. And here is the concrete detail most people miss. It wasn't retail savers who fled first. It was institutional clients and high-net-worth individuals with uninsured deposits exceeding the FDIC limit of two hundred fifty thousand dollars. These are sophisticated actors who monitor bank health daily. Once one major client pulled a large sum, it triggered a self-fulfilling prophecy of fear among the rest. Luna: So the speed of digital banking accelerated the run. You can drain an account in seconds now. Lucas: That is exactly right. A physical bank run takes days. A digital run takes hours. One of the surviving mid-market banks I studied managed to stabilize by making a brutal decision. They marked those underwater securities to market and recognized the losses immediately. It wiped out a significant chunk of their tangible common equity in one quarter. But it stopped the bleeding. Luna: Recognizing the loss sounds painful. Why didn't they just wait for rates to come back down? Lucas: Because waiting assumes you have enough liquid cash to survive until then. Many did not. By recognizing the loss, they raised fresh capital through a private placement at a discount, signaling transparency to the market. It was a shot in the arm of credibility. Investors bought in because they saw management taking ownership rather than hiding behind accounting conventions. Luna: It reminds me of the old adage that it is better to be roughly right than precisely wrong. Here, being transparent about the pain was more valuable than being optimistic. Lucas: I love that framing. Transparency became their primary asset class. Let us look at the liability side for a moment. How do you stop the deposit flight once it starts? The conventional wisdom is to raise interest rates on deposits to compete. But that hurts your net interest margin further. Luna: Yeah, raising deposit costs just increases the burn rate if the assets aren't yielding enough yet. It feels like a trap. Lucas: It is a trap. The smart move is actually to let some of the bad deposits go. This bank stopped competing for transactional balances—those low-cost, high-turnover accounts that flee at the first sign of trouble. Instead, they focused on relationship-based commercial deposits where switching costs are higher. They accepted a slower growth trajectory to protect the quality of their funding base. Luna: So they deliberately shrank their balance sheet to make it healthier. That is counterintuitive for CEOs used to top-line growth. Lucas: It is terrifying for CEOs, but mathematically sound. They reduced their uninsured deposit ratio from over forty percent to below fifteen percent within six months. That number is the key metric regulators watch. Below fifteen percent, you are generally safe from a systemic run risk. Above thirty percent, you are walking a tightrope. Luna: Did they use any government backstops during this process? Lucas: They did utilize the Bank Term Funding Program. This allowed them to borrow against their Treasury holdings at par value rather than market value. It provided immediate liquidity without forcing the sale of securities at a loss. However, relying on this alone is dangerous because it is a temporary fix. It buys time, not structural integrity. Luna: So the BTFP was the oxygen mask, but the capital raise was the surgery. Lucas: Perfect analogy. The surgery fixed the root cause. Now, let us talk about the loan book. Did they pull back on lending entirely? Luna: I would imagine they became very selective. Commercial real estate was looking shaky at that point. Lucas: Spot on. They paused new commercial real estate originations, particularly for office spaces in urban centers. They shifted focus to short-duration working capital lines for local manufacturers and healthcare providers. These loans are self-liquidating and less sensitive to interest rate spikes. It changed their entire revenue mix from long-term yield chasing to fee-heavy, short-term intermediation. Luna: Fee-heavy revenue is much more stable than net interest income when margins are compressing. That makes sense. Lucas: It does. And importantly, they tightened underwriting standards significantly. They moved from a volume-based model to a quality-based model. loan to value ratios dropped. Debt service coverage requirements increased. It meant fewer deals closed, but the ones that did close had a much higher probability of repayment. Luna: It sounds like they essentially went into defensive mode across every line item on the P&L. Lucas: Defensive is the right word. But defense requires discipline. The hardest part was communicating this to shareholders. They had to explain why earnings would drop for two or three years to ensure survival for the next decade. Most boards resist that narrative because quarterly targets are visible and existential threats are abstract. Luna: Until the threat becomes very visible indeed. How did they handle the internal culture shift during this downsizing? Lucas: They had to reduce headcount in sales and marketing roles tied to consumer acquisition. They kept the credit analysts and relationship managers intact. This signaled clearly that the bank valued risk assessment over aggressive growth. It retained the institutional knowledge necessary to navigate the downturn. Luna: Keeping the risk team safe is a smart signal. It tells the market you take solvency seriously. Lucas: Absolutely. And as rates eventually peaked and stabilized in mid-twenty twenty four, this bank was positioned perfectly. Their loan book was pristine, their deposit base was sticky, and their bond portfolio had recovered some value as prices rose. They began to grow again, capturing market share from rivals who had collapsed or been acquired. Luna: So the scars remain, but the business is stronger. What is the main takeaway for other mid-market firms facing similar pressure? Lucas: The takeaway is that liquidity risk is a strategic risk, not just a treasury function issue. You cannot silo it away. Board members must understand the duration mismatch between assets and liabilities. If you are holding long-term fixed assets funded by short-term floating liabilities, you are exposed to rate shock regardless of how good your loans are. Luna: Duration mismatch. That is the phrase listeners should remember. It applies to businesses too, not just banks. Lucas: It absolutely does. A company with long-term leases and short-term debt faces the same vulnerability. Diversification of funding sources is key. Don't rely on a single channel or a single type of customer for your cash flow. Luna: Before we wrap up, I want to touch on the psychological aspect. Panic is contagious. Lucas: It is. The fastest way to kill a business in a crisis is to panic yourself. Communication is vital. Clear, frequent updates to stakeholders build trust even when the news is bad. Silence is interpreted as guilt or weakness. Luna: Transparency builds trust. Aggressive growth builds fragility. That seems to be the lesson here. Lucas: Well said. Resilience beats efficiency every time in a crisis. Efficiency optimizes for the best-case scenario. Resilience prepares for the worst. Luna: Speaking of resilience, if these conversations have helped you think through your own operational risks or market shifts, consider supporting the show directly. Lucas: We keep Fexingo independent and ad-free so we can dig into these details without corporate influence. If you find value in our analysis, visit buy me a coffee dot com slash fexingo to leave a small contribution. Luna: Your support ensures we can keep covering the nuanced stories that shape our economy. Thank you for being part of this community. Lucas: Back to the mechanics of recovery. Once the immediate crisis passed, how did they redeploy capital? They couldn't just lend recklessly again. Luna: No, they had learned their lesson. I assume they focused on core competencies rather than diversifying into risky areas. Lucas: Correct. They doubled down on their strongest geographic markets. They avoided the temptation to acquire distressed competitors at fire-sale prices, which often brings hidden liabilities. Growth was organic, funded by excess capital reserves, not borrowed expansion. Luna: Organic growth is slower, but it is sustainable. It builds real moats instead of fragile empires. Lucas: It does. And as we look ahead to the current economic landscape in September twenty twenty six, the lessons from that period are more relevant than ever. Rates have stabilized, but geopolitical and supply chain risks remain elevated. Luna: So the playbook isn't about predicting the future, but preparing for volatility. Lucas: Exactly. Build strong balance sheets, maintain diverse funding, and never mistake a bull market for skill. The banks that survived were the ones that respected the downside. Luna: A sobering but practical reminder for any leader scaling up today. Lucas: Indeed. The question isn't whether the next crunch will come, but whether you will be ready for it when it does.