Breakingviews: First Republic collapse fires up capitalist elite

If there’s one thing the financial elite who attend the Milken Institute conference in Los Angeles know how to do, it’s turning crisis into opportunity. So it makes sense that a string of U.S. bank failures, deep cracks in the real estate market and the prospect of a coming recession are giving the capitalists a fresh lease on life.

The annual event conceived by junk bond king turned philanthropist Michael Milken, who was imprisoned for securities-related crimes in the early 1990s and later pardoned by then-President Donald Trump, is a place where the rich and influential let it all hang out. Guests pay at least $25,000 to hear from executives such as Citigroup chief Jane Fraser, International Monetary Fund head Kristalina Georgieva and hundreds of other financial and healthcare luminaries. This year they can also hug puppies, join dawn workouts and attend an exclusive concert by Diana Ross. Sessions cover topics from asset allocation to psychedelics.

Not on the program, but leading the hallway conversations on Monday, was First Republic. The general reaction to the U.S. bank’s collapse and forced sale to JPMorgan typifies the can-do vibe. Some hedge funds, buyout firms and asset managers expressed relief that the crisis has so far emanated from traditional lenders, and not the less regulated “shadow banking” sector they occupy. They have a point: First Republic’s downfall funded 15-year mortgages with deposits that could flee in seconds. Private funds typically don’t carry such risk.

Moreover, dislocations caused by bank failures, rapidly rising interest rates and recession create tempting investments. Mid-sized and regional lenders account for 70% of the banking industry’s real estate loans. As they slow their roll, borrowers will seek funding elsewhere, giving money managers with cash to spare a chance to earn a generous return. When bonds and loans sink in value, distressed debt investors can buy on the cheap, or prompt a restructuring. Carlyle boss Harvey Schwartz went so far as to call the demise of First Republic “a good day for the system.”

Like markets, financiers tend to overshoot. Even as some are gung-ho, others warn of the risk of diving in too soon. Much debt issued in recent years comes without protective covenants, once standard, that give investors negotiating power when things go sideways. Another risk: 96% of private-credit fund managers started their careers after the 2008 financial crisis, asset manager TCW’s chief Katie Koch noted in a session on investing in “incalculable times” – meaning they have only handled other people’s money when interest rates have been zero.

Meanwhile, there are bigger unthinkables. As Milken delegates schmoozed, Treasury Secretary Janet Yellen warned from Washington that the U.S. government could default on its debt on June 1 – sooner than the agency previously thought – unless Congress agrees to raise the country’s borrowing cap, the so-called debt ceiling. A default could make First Republic look like a trifle, and result in financial markets having what Fraser called a “serious sense of humor failure.” Then again, for those with a Milkenesque eye, it might just be another moment to turn lemons into lemonade.