BILL-ISAAC-FINAL-FINAL.mp3

Larry Gordon: [00:00:04] Welcome to What The Risk, Exposing Business Blind Spots, an interview based podcast series that discusses risk management topics. Have you ever been blindsided in a business situation? Think about your entire computer system going down. A supplier that cannot deliver or your biggest customer declaring bankruptcy or your new marketing strategy completely missing the mark. These are visceral. What The Risk moments. Your exact words may be different, but the feeling is the same. When everyone's eyes are focused on the next sale, high impact, low visibility risks often get overlooked. We call these blind spots and these blind spots cause what the risk moments. I'm your host, Larry Gordon of Gordon Risk Solutions. Join us on this journey as we learn to ask the right questions, expose potential pitfalls, and empower you to turn the What The Risk moments into I've got this victories.

Larry Gordon: [00:01:06] Welcome to episode 103. First season, third episode. We've seen rising interest rates this year and its impact on the cost of credit throughout the economy and in the financial sector. We've seen direct effects of these rising interest rates. Some banks did not have the adequate risk management programs in place to address portfolio imbalances between their assets and liabilities. These were the first banks to fail. During this episode, we will discuss the current banking environment and the differences or similarities to the banking crisis of the 1980s and the Great Recession from our guest, Bill Isaac. He is uniquely qualified to help us unpack the issues associated with the banking environment based on his unparalleled career in the financial services industry as well as in public service spanning over 50 years. He was chairman of the FDIC, the Federal Deposit Insurance Corporation, from 1978 through 1985, when over 3000 banks and thrifts failed. And he was chairman of Fifth Third Bancorp from 2009 to 2014 during the back half of the Great Recession. I expect this to be an in-depth conversation. Bill, welcome to the What The Risk Podcast. We're glad you're here.

Bill Isaac: [00:02:18] Good to be here with you.

Larry Gordon: [00:02:19] So we have a number of interesting topics to get through today. So let me just start by asking you to tell us a little bit about when you got to the FDIC, what you found and a little bit about what you had to address.

Bill Isaac: [00:02:33] The first thing I'd tell you is I was the youngest FDIC chairman ever, even to this day. I was 34 when I joined the FDIC board. And my first day in office, the was actually in Louisville, Kentucky, where I had been with first Kentucky National Corporation. And the executive secretary came to the Louisville and met me at a hotel, swore me in in the in the lobby of the hotel. And we got in a cab and went to the airport and flew to Puerto Rico. That was my where we handled the failure of the second largest bank in Puerto Rico. That was my first day in office.

Larry Gordon: [00:03:11] So that was a great day to start the job.

Bill Isaac: [00:03:14] Yeah, well, it was a precursor of what was to come because that's what the next eight years were like. It was just one failure after another. It was very, very hectic. And we always handled bank failures, almost always on on a weekend. And so I rarely, during the next eight and a half years, had a weekend off. I mean, I was always on the phone or in the office working on on failures and authorizing things and the like. So it was a very hectic period. The FDIC handled some 3000 bank failures during the 1980s, bank and thrift failures. And so it was it was a busy time. My first day on the office was Puerto Rico. And to handle that failure and I didn't have any other. There were three directors on the board and I was one of the three and they weren't there. So I was all alone. Can imagine how I felt at that moment, at that age, being there for that, a failure of that size. But anyway, I dug in and, and looked at the all the problems we were facing and, and decided what we needed to do to get ready for it and would tell you that the FDIC was not ready for it at that time. It couldn't be because it had it was formed back in the 1930 and it did handle a number of failures back then.

Bill Isaac: [00:04:40] But then we had some I don't know, I guess, the better part of 50 years since then. And the and we handled almost no failures, you know, maybe five, ten a year. And they weren't very big ones at that for the most part. So we really were not ready to handle a lot of failures and not at all ready to handle a lot of big failures. And we had 3000 employees and that was not nearly enough to handle what we were facing. We really did expect to have a lot of failures, didn't probably didn't expect to have as many as we had during the during the 80s, but and didn't expect as many big ones as we had. But we knew we were in a we were facing a lot of problems and and we had to bulk up. So one of the first things I did is start hiring. And we we increased from 3000 employees to about 12,000 during my tenure there. And then we kept on increasing from 12,000 to about 20,000 before it ended in the 90s. And then we were able to to not continue to add staff and start to decrease the staff. So the first thing we did is woke up the staff a lot. Another thing we had to do, if you're if you're going from 3000 people to 20,000 people, you've got a lot of people you have to train and and in all manner of things, how to examine banks and how to handle bank failures and the like.

Bill Isaac: [00:06:06] And so we had training facilities in just outside of Washington, D.C., and I think it was in Arlington or Alexandria. I don't remember exactly what where it was, but we had a small training center that was in rental property. And so one of the next things I did was was to authorize the building of a new training center. And we bought land near George Mason University and and we built a training center, a state of the art training center, and where we trained not only people from the FDIC, but a lot of state agencies sent people there state. Banking agencies, as well as the Federal Reserve and Comptroller of the Currency sent people there to be trained. So that was that was another major undertaking we did. We had to change all of we changed a lot of the compensation and employment programs that people were having to travel all the time. And so we had to take that into account when we paid them. And people were going to all different parts of the country with different pay scales in different places. And so we had to to accommodate that. So there were a lot of things we had to do to get the FDIC ready to face what it was facing.

Bill Isaac: [00:07:18] It all went it all went amazingly smoothly for for what we were doing. And I was very pleased with it. And I think the staff responded great. I mean, they really were terrific and they put up with a lot of nonsense or what they might have thought was nonsense, but we knew had to be done and we couldn't afford scandals, so we had to make sure we were paying people properly for their expenses and all this stuff. We really did a lot of things to bring the agency up to speed, and that's probably one of the proudest things I am about. My time at the FDIC is how we took it from an agency that really wasn't ready for what it was facing, and we got it ready and it performed really well. I'm very happy with the FDIC and the quality of the things they did. In fact, the Congress sort of adopted what the FDIC did. And because we were we were not subject to the federal pay scales and all that sort of thing. And and the other agencies were. And so Congress gave to the Comptroller of the Currency and the Fed a lot of the FDIC programs and made them lawful for for for those agencies as well. So we brought the I think all the agencies up to speed in a in a meaningful way.

Larry Gordon: [00:08:32] Going from 3000 people to 20,000 people. The the infrastructure that you talked about is important. How did you build the culture where people were really focused on the right risks and actively engaged in kind of managing those risks?

Bill Isaac: [00:08:48] Well, that was a process, and that's what the training center was for. And one thing that I can tell you that I was very sensitive about. We were handling billions and billions of dollars in these failed banks because that's I mean, they were they were many, many billions of dollars of assets that were being turned over to the FDIC to manage. And one of the things that I addressed early on was we've got to have the right controls in place because you can't turn over billions and billions of dollars to people and say, handle these and not have them handled right, because that's that's the potential for an enormous scandal if you don't handle them. Right. And that's that's one of the things that I emphasized very strongly. In fact, every day we will not have scandals, do everything precisely right and have the right controls in place, the right approval process and so forth, and and use the right experts for the opinions of value and all that sort of thing. That was one of the things that scared me the most, because you have an agency that hadn't done a lot for the last 50 years in terms of managing assets, and now it had to manage tens of billions of assets. And it was you know, I'm proud of the fact that to this day, I don't think the FDIC has had a scandal about asset values and what it did, which is which is really wonderful to be able to go say, I've been out of office about 40 years. So think think those controls have stood the test of time. And, you know, we had lots of audit procedures and things we put into place and and yet we didn't want to handicap the people who were doing the work. They they we couldn't put enormous burdens in their wake, so they couldn't act efficiently. So it was a really challenging situation to say do the right things, but don't take too much time doing them.

Larry Gordon: [00:10:43] Yeah, I think that you bring up a great point for a lot of growth companies in whatever industry is. If you're going to grow and you're going to grow fast, you need to have all the right policies, the procedures, the controls and the audit functions to ensure that you're not going to have the blind spots of the variance of people doing things differently and creating the scandals that you were talking about.

Bill Isaac: [00:11:09] And and when you when you go from 3000 people, most of whom weren't handling troubled assets, they were just doing bank examinations. So you go from 23,000 people to 20,000 people. A bunch of them you don't know. I mean, you just hired them and you're training them to do the right things. That's that's that's really scary. I mean, it is it makes it makes you really nervous as a as a CEO of a place. How do I get this growth and not have it and not have it be out of control, not to have people that we don't know and we haven't maybe trained them properly and so forth. So that that was a real challenge and it's a challenge that every bank faces. It's not you know, we the FDIC was becoming a very big bank. Yes. It was in a in a very big hurry. And and most of the most of the assets were very troubled. And so imagine imagine if you're running a bank, what's that what that's like. And so that's that's what that's the face. That's the challenge that a lot of banks face day in and day out. Hopefully not to that extreme going from 3000 people to 20,000 people in a matter of a couple of years. So hopefully not that fast of growth and hopefully not all troubled assets, but that that's sort of a wild, crazy version of of what banks go through and and what banks do go through those problems and that's where they get in trouble frequently. And that's what I was very sensitive to because I've been in the banking business and I saw troubled banks back in the 1972 to 74 period.

Bill Isaac: [00:12:50] I was I was with one of the largest banks in was the largest bank in Wisconsin. And they got into that Greek crisis that we had back in that period. So I saw what went on When you had rapid growth in troubled assets and how hard it was to deal with it. And so that was a lesson that I had coming into the FDIC. And, you know, the bank that I was with in Kentucky was not as big and as troubled as as others. It was relatively healthy, but it had its problems. And I was general counsel. So I had to deal with a lot of those problems. And so that was really good training for what I was about to embark on at the FDIC because I got what I what I inherited was a great big bank that went from 3000 people to 20,000 people. And all of the all of the loans were troubled. Almost all were troubled. And so how do you deal with that and not and not have a crisis on your hands in terms of failure to do the things that need to be done to control losses and fraud and all that sort of stuff. And but that's that's sort of a big problem that you're faced with. But it's the same problem that most banks are faced with maybe smaller scale. For most, for most banks, there are some banks that are much bigger than that. And and they have they have much bigger problems they have to deal with. So that's that's a real that was a real lesson I had that was was helpful.

Larry Gordon: [00:14:18] So then after the FDIC, you went through a period where you were practicing law and you were doing some consulting. And so how did you end up at fifth Third Bank?

Bill Isaac: [00:14:28] Well, I left the FDIC and I decided it was funny. I was trying to decide what do I want to do? And I thought, well, the logical thing since I just ran the FDIC through a crisis, would be to join a big bank and and then thought about it and I thought, I don't think there's any bank that's going to satisfy me after what I've been through what I just described to you. Right. Thousands of bank failures, no weekends off and everything. I think I'd be I just don't think I'm I'm ready to go. Be as calm and peaceful as it would be to go to a normal bank after this. And so I decided that what I really would be good at was helping banks get through troubles and to try to help them learn how to handle assets properly and make loans properly and all the things that it takes. Because the period that I was at the FDIC, it was transformational. Big time transformational because during the 1930, Congress decided that banks should not be taking a lot of risks. We didn't want to go through another depression. So what we wanted was a financial system that was absolutely safe and and foolproof. And so that's what they gave us and they were successful at it. Banks had all sorts of controls on them where they could branch, whether they could branch, whether where they could operate their banks, what they could pay for deposits, what they could, what they could charge for loans, what kinds of loans they could make, what kinds of non-bank activities, financial activities could they engage in.

Bill Isaac: [00:16:08] And so banks and thrifts all had their little sandbox and they had their rules. And the rules were designed so that they didn't create huge problems for themselves. They wanted the banks and the thrifts to be safe. And then non-banks were so were told to stay out of the banking arena. You don't belong there because this is what this is our safe place. And and so if you're an investment bank where you're going to take all these wild risks, that's okay. But do it in your own sandbox. And banks, you can't go over into that sandbox. So that those were the rules we had. And they worked from 1934 when the FDIC was up and running to 19, let's say 1980. We had very few bank failures. We started to get some in the late 70s, but prior to that we had we had almost no bank failures. And the reason we didn't was because we had all these controls on what banks could do and what they couldn't do and who could be in banking and who couldn't be. But all of that fell apart because Congress lost control of fiscal policy. And Jimmy Carter, to his great credit, he. Jimmy Carter appointed me to the FDIC board and as a Republican to the FDIC board.

Bill Isaac: [00:17:28] And he appointed Paul Volcker to the Fed. And we I went on the board in 78 and Booker went on the Fed board and in 79. And his instructions were kill inflation, get it, get it, get it under control, get rid of it. And so that's what we did. And Volcker took the interest rates up a lot and he took the prime rate, ultimately went to to 21.5%. Imagine that you're running a small business. You're used to 7 or 8% interest rates and or you have a home, you took a mortgage out or you wanted a job and you're and you're used to low rates and all of a sudden you're paying 21.5% to prime rate and money is hard to come by. In addition to that, in addition to being expensive, it's hard to find. So it created massive economic problems. But what it really did to the banks and thrifts was it changed their whole business model. You can't have interest rate controls on what you pay depositors and what you charge lenders. Um, borrowers. You can't have those kinds of interest rate controls in place when the market rates are up at 21.5%. So that meant that all those controls we put in place in the 1930 had to be taken off quickly because if banks were not allowed to pay up for their deposits, they're not going to have any deposits.

Bill Isaac: [00:19:04] And that's not something we want the banking system to have is zero deposits. And that's exactly what would have happened had we not liberalized and said, okay, here's we're taking off then. And the interest rate controls on what you can charge for loans and what you can pay for deposits. And we're taking off as many of the other controls as we can. We can't have you all tied up. So let's take Illinois. Illinois had no branch banking whatsoever around around the state and no interstate banking. And we had Continental Illinois sitting there about to fail. It was the seventh largest bank in the country. And who was going to buy it? If we had to, if we had to handle the failure. Nobody, because nobody could branch anywhere in the country and much less in Illinois. And so there was a lot of structure in place from the 30s, which I appreciated. I liked because it made our job a lot easier. But it wouldn't work in this new in this new era. And so we had to get rid of all that structure that went in the 30s and put in a new structure, fewer rules and more hands on enforcement. We didn't have rules telling you you couldn't do dumb things. So we had to go in and make those people and make sure we weren't doing dumb things.

Larry Gordon: [00:20:27] So we inspected quality into the process.

Bill Isaac: [00:20:29] Yeah. And so and so we really had to restructure the whole system and we had to do it quickly on the run while we were handling failures. And that's what that's what it was like. And that's why you never had any free moments at all. You never had any time to breathe and think even. You just had to keep on going and do stuff. And that's that's what the 80s were like, far different than what came after. Because you're you're restructuring a banking system while you're handling 3000 players. And and so there's there's never been a period quite that hectic since. And despite what people say, that was a really tough period.

Larry Gordon: [00:21:12] So after the FDIC, you had to take a breath and and you had to find a hobby. So talk talk us through your post FDIC time.

Bill Isaac: [00:21:23] Well, obviously, I needed a breather and and but I didn't take one. I actually didn't have a day between the FDIC and my next job. I moved immediately from the FDIC to my next job, which was I joined a major law firm, uh, and I established a consulting firm. For banks and thrifts and other financial institutions, too. That was a part of the law firm. The law firm part of it owned the rest. And then I brought people in and they owned some of it. But I created that on their own without. Without any vacation at all, because I felt it was important to keep on going. And I was a young man so I could I could do that. And what I decided was that rather than go to a bank because I thought it would probably be pretty boring after that experience at the FDIC. And so I set up a firm called the Secure Group. And and the purpose of it was to help banks figure out how to run and themselves in a deregulated environment where they had to decide what to pay for deposits and what to charge for loans and how to how to manage risk and how to deal with the new regulatory regime and so forth, and how to how to branch all over the country without getting in trouble and so forth.

Bill Isaac: [00:22:51] So that's that's what I decided to do. And it was it was very successful and very satisfying that I hired a bunch of people from the regulatory agencies, high level people and some senior people from banks and put together this firm. And it also it also had a talent part of the firm executive search because banks clearly going to have to hire a lot of new people that knew different things than they used to. And so that's what we did. And it was very successful. And then a lot of not a lot, but some, as you can imagine, competitors came up because they figure they saw what we were doing and they decided that was a good way to make a living too. So we had competitors come up and for for the first ten years or so, it was we had basically a monopoly because nobody else had what we had. And and then others started to add people to their firms like, like ours. And, and so it became less interesting in terms of there were there were a lot of a lot of a number of other people doing what we were doing. And it was it was not as fun as it used to be and not as necessary as it used to be.

Bill Isaac: [00:24:06] Around that time we were working on two large regional banks. One of them was fifth, third name, the other one, but it was another bank of that size and we were trying to help them because we were in 2008 and nine period where the system all broke apart again. I thought we thought we had finished all these bad times with what Volcker and did in the 80s, but apparently we didn't learn all the lessons so adequately. And so we had a breakdown in the system around 2008, 2009. It was primarily a real estate problem and it was widespread, but it became far worse. I thought it was terribly mishandled, and that's why I wrote I wrote a book in that period called Senseless Panic How Washington Failed America. And that was my response to the Tarp program and how they mishandled the situation. But during that period, a lot of banks that otherwise fifth third had been extremely profitable forever. I think they had I don't know, it must have been at least 30 years of record earnings and and and but they got in trouble during that period of 2008, 2009, as a lot of people did. And I was we were our firm was consulting with them, trying to help them with their problems. And one of their their lead director came to me and said, how would you like to leave what you're doing and become chairman of the board of fifth, Third? And I thought about it and I thought, sure, why not? I'm what I'm doing is not as unique anymore and I'm ready to do something else.

Bill Isaac: [00:25:59] And so I agreed to do it. And I had five years until I had met would meet their mandatory retirement agency. So I agreed to be the lead director for five years. And I was and and I enjoyed it immensely. I think we made a lot of improvements at fifth third. And what they did is they separated the chairmanship from the CEO's role because they felt that they needed an independent chairman, which a lot of banks did during that period. And so Fifth Third named me as the independent chairman, and I found it very satisfying to take all those things that I had learned and put them to use back then. And fifth third came out of it very nicely. And they're they're they were. Before. Then they got in some trouble. They needed some help. And they came and they became a great bank again. So I was very pleased with that. And then I joined another consulting firm for a while and didn't like working for a consulting firm that wasn't mine.

Larry Gordon: [00:27:00] So when you were at fifth, third and this is more than ten years ago and a lot of banks were focused on a lot of different kinds of risk coming out of the Great Recession. What was fifth Third's biggest risk that had to be managed through at that point?

Bill Isaac: [00:27:19] Known quality and that was unique. They hadn't had loan problems previously and but they they were growing more rapidly and they were growing more rapidly over a broader geographic area. Uh, they, they, they were in Cincinnati and other parts of Ohio. They went into other states, including much of the South and Indiana. Uh, West Virginia. They Michigan, another one, Florida. And so they were growing and growing more rapidly than they would otherwise have grown with their they were over a smaller geographic area earlier and they didn't have probably the right controls and people in place to do that. All that that fast. And that's how people generally get in trouble as they they're taking on more than they can chew.

Larry Gordon: [00:28:19] So at the same time, coming out of the Great Recession, Cfpb was created. And so from a board perspective in your role as the independent executive chairman, kind of what was the view of the Cfpb controls from a cultural perspective, from an infrastructure and the investment perspective as it was being built out and the compliance part of it was being built out at fifth third didn't fight.

Bill Isaac: [00:28:49] The Cfpb coming into existence, thought it was a bad idea, but thought, how bad can it be? I mean, we're already doing compliance in all the banking agencies. And how how can the Cfpb be a lot worse for banks to deal with? And so I stayed quiet. I didn't object to it. I'm not sure I could have done anything to change it if I had hollered. But in any event, I didn't. I just thought, well, this is a bad idea, but it can't be that bad. And and so I kept quiet. It turns out that it's been horrible. And the reason it's been horrible is because they didn't create a Cfpb properly. Um, it should have a board of directors, a bipartisan board of directors. And it doesn't. It has a single agency head who has almost no rules, and the agency itself has almost the charter for it is is also ill described if described at all. So they sort of make up their rules as they go along. And when I say they it's really a single agency head who makes up whatever rules are deemed appropriate. And I don't think that ever works. I mean, what they do is they start taking on more and more and more responsibilities. They have They have they'd like to change the world. And so they they do whatever needs to be they needs to be done in their mind to change the world and make it perfect. Um, and so I don't think it has worked and I don't think it ever will work unless Congress comes in and treats it like most every other federal agency.

Bill Isaac: [00:30:33] And that is gives it a structure and a governance structure and a leadership structure that to make it do the right things in the right way to make it accountable to somebody. If I were the Congress, I would I would give them federal funding. They have to go to the Congress and ask for money. I would give them a board of directors, an independent board of directors appointed by the president, bipartisan and and probably three members and fixed terms say six years or whatever. And and give them some some some guidance. Give them some rules about what it is they're doing, what's their enforcement power? What are they trying to do? What rules do they have to follow? None of that has happened. And so to me, the Cfpb is a mess. And it and it shouldn't be the we should have proper rules and consumer compliance. Think we did have proper rules. I know the FDIC devoted a lot of money and people to enforcing consumer compliance. That was an important part of the FDIC's job. I know the Fed had had that as part of its job. The SEC had that as part of its job. The state banking agencies have that as part of their job. We didn't need a separate Cfpb. But if you're going to have it, then set it up right and give it some rules and and some guidance and make it make it spend money that it collects either from Congress or imposes on banks, whatever, whatever it's going to do.

Larry Gordon: [00:32:14] Based on that. What we saw during the Great Recession, what we what you saw during the 80s. Let's pivot to kind of the bank failures that we're seeing over the past six months. What's different and do we need what are we thinking about in terms of managing the current situation?

Bill Isaac: [00:32:35] We haven't managed the last six months very well. That's roughly the time period we're talking about. And to me, it's it's it's I don't know, I'm sort of depressed about it because it's it's deja vu all over again, as Yogi Berra would say, Everything that was happening back in that last six months was was a relic of years gone by. When I was chairman of the FDIC, we saw all those problems. Back then and we took care of them. And and we hoped that that the lessons would be learned forever, that people wouldn't repeat those problems because they learned something from from the period of the 80s. But let's take Silicon Valley Bank. Silicon Valley Bank had a problem with an interest rate mismatch. They bought a bunch of fixed rate government bonds. As I understand it, and at a time when rates really couldn't do much but go up because the the Fed had rates down at an incredibly low, I mean, the Fed policy was terrible. They had they had reached down to somewhere close to zero, 1 to 1%, 2%, whatever. And that monetary policy was very bad and fiscal policy was also very bad. And so we had a rising rate environment for sure. And why would you go out and buy a bunch of fixed rate government bonds and load up and they tripled in size over a three year period.

Larry Gordon: [00:34:13] They didn't follow your FDIC playbook, did they?

Bill Isaac: [00:34:17] No. I mean, first Pennsylvania did that in 1979. That's that's a failure. Handled. Handled in 1979 with Paul Volcker. First Pennsylvania. I guess, missed the message that Walker was being appointed Fed chairman to raise rates. They didn't read their paper that day. Guess. And they went out and loaded up on fixed rate government bonds. First, Pennsylvania was the oldest national bank in the country. Number one charter because it was started back in the Civil War. Mean they became a national bank in the Civil War. So they were the first charter when the national charters were allowed. And they've been around all that time. And they didn't think. That loading up. Expanding your balance sheet and loading up with a bunch of fixed rate government bonds. Could be a bad idea when you have rampant inflation and a new Fed chairman. Directed to raise rates.

Larry Gordon: [00:35:23] So then we flash forward to SVB, who did the same thing.

Bill Isaac: [00:35:27] The same thing. They did the same thing. And so you have to wonder, what were these people thinking about? Were they thinking? And. And I mean. That's the 1980s all over again. But you already saw it once. Why do you need to go watch the movie again?

Larry Gordon: [00:35:48] Do we think that enough other banks either have or are currently working through the same examples that SVB gave us as to how to not risk manage?

Bill Isaac: [00:36:01] I believe that there are other banks that that have. A lot of fixed rate, long term loans or bonds or whatever it is they have. That's not that was not unique to Silicon Valley Bank. It was the worst. Just just as I don't think what first Pennsylvania went through was unique, but it was the first and the worst. And then others will follow on behind. How many failures are going to occur? I don't know. I said that at the time. Everybody said it's just the first there's a Silicon Valley bank. Does that mean we're going to have massive bank failures? I don't think so. For one thing, we don't have massive banks anymore. I mean, back then in the in the first Pennsylvania days, we had 13,000 banks and 5000 or 6000 thrifts. So we had a lot of but a lot of banks and thrifts with with fixed rate loan problems. But so we don't we don't have that problem and that kind of scale today. But but it's not the only bank that I'm, you know, that has missed rate mismatch on their on their rates. And so I think that others are are going to suffer from it. Will they fail? I don't know. Some some might some might just have some lousy earnings for a while until they get out of the mess and the rates won't be up forever. They're going to come down at some point. And and and if the banks aren't too bad off, they'll make it they'll they'll get through it. And I don't I don't see anything nearly as bad as Silicon Valley Bank out there, with the possible exception of First Republic, which came down as well for much the same reason. Sure. And both of those banks added tons of growth in the in the last 2 or 3 years of their lives, which was just uncalled for. It was a I don't I don't know what they were thinking.

Larry Gordon: [00:37:54] So what are you seeing as the trends from a risk management perspective and trends from a weaknesses that people should be focused on from a regulatory or risk pillars within the banking organizations? What are you seeing besides the risk mismanagement on the asset and liabilities?

Bill Isaac: [00:38:16] Well, that's. That's a big one. Very big. And when you have and when you have mismatches like that, you're likely going to have asset quality problems, period. You might have, you know, loan quality problems and things because the borrowers may not be ready for what's happening in terms of increasing their rates. And so that that could lead to credit problems in the case in the case of Silicon Valley Bank, that was just a mismatch on on their bonds. But but that also could have led to asset quality problems. They're loaning money to borrowers that can't handle the increase in rates. And so it leads to credit problems. And then if you're being sloppy in those areas or careless or whatever you want to call it, you probably are taking more risks in other areas that, you know you're growing too fast in other areas or whatever it is you're doing, you're expanding too fast. So there's never when, let's say, Continental, Illinois. With Continental. Continental, Illinois, got into trouble. It was a seventh largest bank in the country, so it a pretty good size and had some diversity. But you saw them get into trouble earlier. I mean, we saw it when they started making bad loans, when Penn Square failed in Oklahoma in 1982. Who was one of the biggest lenders to Penn Square. Continental, Illinois. And I said in 1982, we better keep an eye on continental Illinois, because they had way too much money in Penn Square. And therefore they probably have way too much money elsewhere. And sure enough, that was a that was a telltale sign that came true.

Larry Gordon: [00:40:12] So they had concentration risks. So if we think about that and the things we've been talking about so far, what do you think the regulators are going to be looking at from a vulnerabilities perspective during their exams over the next 18 months?

Bill Isaac: [00:40:28] Well, always they should be looking at concentrations. If you're not properly diversified, then you're not properly protected against. Losses, significant losses. So diversification is really important. I mean, it's diversity, diversification everywhere. You can't you can't have too much of anything and get away with it forever. And, you know, I was with first Kentucky before I went to the FDIC and first Kentucky was a regional bank, the largest in Kentucky. And relatively small bank in today's world. But that was a different time. Everybody was smaller then. And but anyway, the CEO of the bank or the chairman of the bank, he wasn't the CEO. He'd been the CEO before. He was very proud of the bank's record. And he said he used to brag all the time about our bank has always been successful. We have not had a down year, a down year in earnings. This was in C when I went to first Kentucky in 1975. Okay. You said we haven't had a down year since 1930 something. So it's 40, 40 years. They hadn't had a single down year in earnings. And he said the reason why we haven't had a single down year since 1940 or 30s is because not because we're smarter than anybody else. Because we're not. It's not because we're luckier than anyone else. Because we're not. He said it's because we diversify. We don't do. We do dumb things. Don't get me wrong. We do dumb things. We've made every mistake every other bank has ever made, whether it was loans or whether it was, you know, housing loans or whatever. We've made every mistake. That every other bank has made. But we've never overdone it. We've always had a diversified, balanced portfolio, and that's why we've had record earnings for 40 years. And and that's that's that's the primary lesson I would tell any banker or any bank regulator. That's the key to success. Don't overdo it. Don't think you're smarter than everybody else because you're not. You're smart, you're good. And if you really are smart and you're really good, you'll diversify your risk all all across the board. Don't do anything in excess.

Larry Gordon: [00:43:15] So as a board member of a bank and being involved in so many banks, what would your kind of executive board member advice be to the Chief Credit officer to lending officers about their portfolios currently and as they make new loans?

Bill Isaac: [00:43:35] Nope. Don't be afraid. To make a mistake because then it paralyzes you. You have to take risks. You're in a risk business. I mean, what good would the bank be if it didn't take any risk? And and so take risks, but don't overdo it. Put a cap on it. In every in every way. When there's interest rates, whether it's credit quality, whether it's geography. Don't don't put all of your loans in the same geography. And that's and that's why, you know, the FDIC was created in the 30s. And before that, we had every every practically every state in the union had had an FDIC type insurance company. Okay. And they all failed. Every one of them. Every one of the state chartered insurance companies failed. Multiple times because whenever they had a recession or depression. They had all their risk concentrated in that state and they wound up failing. And so Congress said, we can't do this again. Let's let's create a federal deposit insurance Corporation that spreads its risk all over the country. And that's and that's the whole basis for the FDIC is not to have excessive concentration geographically or by industry or whatever. And so that that's why the FDIC, when they come to your bank, if they're doing your job right, they should be looking at your concentrations. Geographic concentrations. And so let's say let's say you're a bank that's in one state or one part of a state. That makes you more dangerous. Then a bank that has a lot more diversification. Sure. I mean, not not necessarily. But if you if you don't protect against that concentration. You're going to you're going to be in trouble. And so the when they come to examine, they ought to be looking at where are they making. What are the businesses in the areas where they're banking? What are the vulnerabilities of the bank? Of the businesses in those areas? Do they have too much of it in this bank? Let's say you're a farm bank.

Bill Isaac: [00:45:49] If all if almost all of your credits are in the local farming area, well, you know, that's higher risk than if you were spread over a broader area and you didn't have your primary risk being agriculture. Because that's a unique risk that they and they get in trouble pretty much all at one time. And so if you're structured like that, you've got to say, well, I'm going to have to be more careful with my loans. I'm going to have to have a higher loan to mean lower loan to value ratios. I need I need to make sure I've got perhaps some some extra credit, you know, some kind of guarantees or something if I'm going to take a lot of risk. So that's that's what I'm saying is no bank is like any other bank. They are all they're all different and they all have to evaluate, evaluate their risk and and diversify those risks. And some banks don't have to worry about it so much because they are so broadly diversified. There are other banks. They have to worry about it a lot. If I owned an agricultural bank, I would be if 60 or 70 or 80% of my loans were to agricultural, you know, to farms, I would be careful, very careful about how I lent. And and you're doing that for the sake of the community. What good are you to your community if you fail? You know, you owe it to your community to be diversified. What good do you do a borrower to give them too much money and fail?

Larry Gordon: [00:47:26] Exactly. It seems like when you're talking about credit, the FDIC currently is looking forward and seeing a bit of a credit crisis coming or a credit weakness, I should better say, because they updated their their interagency guidance on commercial real estate and loan workout. And this is the first time they've done that since 2009. So that's clearly signaling. What we shouldn't be surprised about is on commercial real estate is the vacancy rates and rising interest rates kind of for those fixed assets. So I think there's the FDIC is coming out and signaling that they're expecting the weaknesses to come.

Bill Isaac: [00:48:12] And it's it's late. It's late in the day for that warning to come. Yeah, because most people have seen. The real estate problems developed long ago, years ago. And. In fact, don't mean it's hard to even know where it's going because clearly a lot of people are leaving the cities. And so what does that mean to to the value of real estate in those cities? So if you weren't being very careful, you should be and you should have started that several years ago. And so if you're just now getting the idea that maybe it's risky. I mean, you look at what's going on in the cities with the riots and the homelessness and everything else. Is it time to be concerned about the value of real estate in those cities? Of course it is. It doesn't take a genius to figure that out. Does that mean that every every all the real estate in the cities is going to go to pot? No. It just means you better be careful. It should not be business as usual that you build building after building after building and not worry about it. And so that's that's that's what happens in banking too often. Um, people start going a certain direction and they don't, they don't stop and say, wait a minute, if we've gone too far, should we pull back a little bit? So some people do pull back and that's why they survive. Some people don't and that's why they don't survive. And so it's time to be looking at it's always time to be looking at those things. And if if you need a regulator to tell you it's time.

Larry Gordon: [00:49:59] It's too late.

Bill Isaac: [00:50:00] It's too late.

Larry Gordon: [00:50:02] Let's shift for a moment and talk about from the perspective of business leaders and operating companies. And I want to discuss kind of one of the things that you and I have talked about before is the focus on working with banks of all sizes. Because after Svbx people had a knee jerk reaction that was let's move all to a larger bank. And that's not necessarily the best way to handle that. And I'd like for you to talk about that.

Bill Isaac: [00:50:31] Well, I, I firmly believe that we need in this country banks of all sizes. Clearly, we need some big banks. And because they can they can make loans that need to be made that small banks can't make. There, there, across the seas or wherever they are. And the big banks have a market that only they can fill and small banks can. Or even medium sized banks can't. But just like the big banks are doing things that the small banks can't, the small banks are doing things that big banks can't do very well. I mean, they're used to mass marketing. They're not used to. I'm from Bryan, Ohio, a town of 8000 people in northwest Ohio. And. There are big banks that have, by big banks mean some regionals that might have an office in Bryan, Ohio. But they they don't know Bryan Ohio. They never will know. Bryan Ohio the way the small banks do and and and they can't fulfill the needs the way small banks can because the small bank, they know the people, they know the businesses, they know what works, what doesn't work. And we really need those kinds of people in banks that are serving small to medium sized communities and and and they need to have a presence there. That if they don't have a presence there, who's going to sponsor the Little League and other things like that? The small banks do their part of the community. They make the community work. And I know that because I grew up with that. And so I also see that the fact that the regional banks are unique, um, let's, let's take fifth third. It, it serves a larger.

Speaker3: [00:52:30] A group of.

Bill Isaac: [00:52:30] Businesses and its bank and its communities, and it's serving larger communities. It's in places like Cincinnati and Columbus and Cleveland and in Grand Rapids and Indianapolis and so forth, larger communities with with larger products and, you know, you know, broader products and so forth. So there's a place for these banks. And I think that if the US got to the Canadian system, which would, you know, we're headed in that direction, I hope we stop. Uh, you only have 3 or 4 banks in Canada that have been the rest. The rest of the things that are going on are credit unions.

Speaker3: [00:53:12] Right. You have credit.

Bill Isaac: [00:53:14] Unions that are serving a bunch of people in Canada and and and but almost no banks other than the big whatever it is. Three, four, five. And and I don't want to I don't want to see that system in the US. I don't think it's I don't think that's what our country's all about.

Speaker3: [00:53:30] I think we are a.

Bill Isaac: [00:53:31] Very diversified country geographically, culturally. We live in big towns and small towns and middle sized towns, and I believe in our communities in this country, and I believe in them more than I believe in in banks per se. And banks are our banks are there to serve our communities. And and so I think we ought to allow that to develop. But we actually did allow to develop and we need to keep them banks of all sizes that fit and work in communities of all sizes with different needs. And I think it would be a very sad day for our country if we didn't do that, if we let this country continue to minimize the banking system and reduce it to a handful of bigger banks. A terrible mistake. And that's the way Europe is and it's the way Canada is. And I don't think it's right for America. I really don't.

Larry Gordon: [00:54:38] So when we think about a lot of the online lenders and that are targeting the commercial side, what that does is it really commoditizes alone as opposed to building that relationship? Do you have any advice for both lenders and borrowers on how to optimize that interpersonal banking relationship and moving back away from some of the commoditized loans?

Speaker3: [00:55:06] If you're looking for.

Bill Isaac: [00:55:07] For something that's more personalized. There's more geared to the customer.

Speaker3: [00:55:14] You don't buy.

Bill Isaac: [00:55:15] The commoditized price because you're not going to get what you want, which is personal service, personal knowledge of you and who you are, your family, what you need. How bank can be helpful to you and your community. If you care about those things, you're not going to buy a commodity.

Speaker3: [00:55:34] If you if.

Bill Isaac: [00:55:35] You want a commodity, you get you don't you don't shop at the local grocery store. You buy from Amazon.

Speaker3: [00:55:43] Okay.

Bill Isaac: [00:55:44] And I prefer not to buy my groceries from Amazon. Amazon. I'd like to go to the grocery store and look at them and see what they are and pick them. Pick them out and and choose what I want to choose. And if I pay a little more. So what?

Speaker3: [00:55:59] I'm getting something for it.

Bill Isaac: [00:56:01] And I think that's what we're talking about is do you want to buy everything from Amazon, including financial services, or do you want to vehicles to do business with local businesses that are that know you and can cater to you?

Larry Gordon: [00:56:15] Well, I think the catering and also understanding the local market and delivering on being the bank or being an advisor. How do we help you with your financial structure adds value in that process and not just if not just trying to sell to the low price, because I think that is for a brick and mortar, especially kind of a failed business model. So you need to have some of that advice and kind of that relationship, Bill, in your public sector and your private sector experience. And I'd love to have some insight as to one of the most unconventional approaches to managing risk that you found surprisingly effective or valuable.

Bill Isaac: [00:57:01] Who was it that says the.

Bill Isaac: [00:57:03] Best surprise is No surprise. Somebody had that advertising logo, I think. And that's that's true. And that's that's my philosophy. If you if you plan for zero surprises or close to zero, at least major crisis, I mean, you're always going to have small surprises. There's always going to be somebody who does something wrong. Any firearm. Okay. And that's another thing if somebody does something wrong. Their eyes are not trained. Right. In which case you got to change your training or they're not you know, they're not reliable. They don't have the right mentality, the right standards. And so you fire them. You need to get rid of people that aren't doing the job right. If you keep somebody around that you know is not doing the job right, shame on you. You either train them better or get somebody else who has higher standards. I don't think you should have surprises if big surprises if you're in financial services, you shouldn't have it. If you do, you've done something wrong. You've got to change it.

Larry Gordon: [00:58:08] Bill, thank you very much for your insights and and experience talking today. I think it's been really valuable. I think there are a number of key takeaways that people have, both on the bank failures of the past as well as the current about the regulatory environment and working with your banks and not just fleeing to the larger banks, but actually staying with the community banks and regional banks because of their value add. And I really want to thank you for your time today to be able to share that with our audience.

Bill Isaac: [00:58:40] Thank you for having me. I truly enjoy it. It's fun to talk like this and and spread the word to all the banks. I mean, do think that I love our banking system. It's the best in the world and I want it to stay strong and even get better.

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