What Happened to First Republic Bank?

A sign in front of a First Republic Bank office in Oakland, Calif. on March 16, 2023. Justin Sullivan/Getty Images

On May 1, First Republic Bank became the second-largest bank failure in U.S. history. Its failure is second to Washington Mutual (2008) and just ahead of Silicon Valley Bank recently. The result was another disruption in the banking industry.

Trouble was on the rise in February 2023 when First Republic’s shares had a 98 percent drop. They went from $147 per share to $3.50. But how did this happen? What contributed to the demise of First Republic Bank?

First Republic’s Emphasis on Service

The business model for First Republic was simple: give wealthy customers high-touch service. The thinking was that these customers wanted service over a few dollars of interest on their deposits.

They attracted these clients and paid them minimal interest on their deposits. First Republic then used the deposits to fund mortgages. The average interest paid to depositors was 0.12 percent.

As part of the business model, First Republic limited the number of depositors. In addition, they touted their ability to provide excellent service to their small customer base. The result was First Republic’s deposits were around 20 percent of what other banks their size had.

Low-Interest Jumbo Mortgages

Loans, including jumbo loans, were given to the wealthy if they opened checking and savings accounts. Many made deposits so they could earn discounted interest rates.

For example, Mark Zuckerberg, founder and CEO of Facebook, was given a $5.9 million mortgage for a starting rate of 1.05 percent.

It created a demand for loans during the pandemic because wealthy buyers seeking mortgages increased. And First Republic gave interest-only loans to these high-income buyers with exceptional credit scores. Generally, the buyer didn’t have to pay the principal back for 10 years.

The demand for these loans contributed to First Republic doubling its assets in four years. But these were low-yielding fixed-rate loans that wouldn’t mature for years.

Because the bank was mainly interested in large loans, they didn’t expand into other products. These included auto loans and credit cards. This would have helped balance out the bank’s loan book.

Outsized Proportion of Deposits

It’s risky to have uninsured deposits, and two-thirds of First Republic’s depositors were uninsured. The limit for the Federal Deposit Insurance Corporation (FDIC) is $250,000.

And although Silicon Valley Bank had more, with 94 percent of their depositors uninsured, at the end of 2022, First Republic had a hefty 111 percent loan-to-deposit ratio. In other words, they loaned out more money than they had in deposits.

Most big banks like Bank of America or JPMorgan diversify their deposit base. These are called “sticky deposits.” Those under the $250,000 FDIC threshold are less likely to withdraw their funds if a bank has problems. The larger depositors could pull their funds because they might lose them.

Inflation Drives Interest Rates

Inflation took a bite out of deposits as the wealthy started withdrawing their funds to take advantage of higher interest rates. With Series I Savings Bonds earning over 4 percent, the interest that First Republic was offering didn’t make fiscal sense. First Republic experienced a 41 percent drop in assets in first quarter 2023.