The failure of Silicon Valley Bank (SVB) shook investors over the weekend and brought back bad memories of the banking issues in the 2008 Great Financial Crisis (GFC). It’s natural to try to draw parallels to history and even 15 years later the Financial Crisis remains seared in our collective conscience. Fortunately, there are very few similarities to the issues in the banking system in that historic period and the issues that took down SVB.
While the GFC banking issues were based largely on credit issues caused by low quality collateral in the form of bundled subprime and less than investment grade mortgages and an unsustainable housing bubble created by these bad loans, the SVB failure was largely due to poor management decisions and risk oversights specifically at SVB and two other small banks.
SVB was a primary beneficiary of the startup technology boom in 2020 and 2021, with deposits growing by 86% in 2021 alone. What SVB’s management didn’t properly consider was that such a concentrated depositor base left them exposed to the potential for industry-specific dynamics to alter cash needs/activity much similar to why they’d been able to increase deposits so quickly in the preceding years. In the easy money, high liquidity environment coming out of COVID, startups were able to access and raise capital quite easily and their need for cash was low so deposits piled in. Following a sharp selloff in high growth, low-or-no profit technology stocks over the past 14 months, access to capital for startups decreased swiftly and the pattern of increasing deposits changed to a pattern of increasing withdrawals. In the fractional reserve banking system it’s important to have depositor diversification to reduce the likelihood of a run on the bank.
In addition to a concentrated depositor base, the booming growth in relatively few hands meant that the vast majority of deposits were above the traditional FDIC limits. As much as 90% of deposits at SVB were technically uninsured deposits, a condition that naturally could tip into a bank run if depositors believe there is a reason to suspect the solvency of the bank.
With a risky setup to begin with, SVB amplified their problems when they used balance sheet assets to purchase long-term US Treasuries and other long-term securities which carried high interest rate risk. They essentially stretched for yield at a time when interest rates were historically low and found themselves on the wrong side of swift interest rate increases. The collateral issues were somewhat masked by accounting rules that do not require them to recognize losses on securities they plan to hold to maturity unless they sell them. When Moody’s recently threatened a credit downgrade the gig was up and SVB was faced with either raising equity capital or selling securities at a temporary loss.
Liquidity and solvency concerns spread rapidly through SVB’s very interconnected depositor base and their failure was a forgone conclusion when nearly $42B in withdrawal/transfer requests hit the bank on a single day last Thursday, March 9th.
Fortunately regulators including the US Treasury Department, the Fed, and the Federal Deposit Insurance Corporation acted quickly and forcefully to contain the issues and reduce the risk of contagion across the banking industry. Over the weekend they announced all deposits at SVB would be protected and accessible by Monday, March 13th. Concerns remain elevated, but these actions did seem to contain the issues. At this point we believe the market is likely to return it’s focus to inflation, the Fed’s hiking path and company earnings.
If you have any questions or concerns, please reach out and we’d be happy to discuss things further.
Your Planning Works Team
03/14/2023 Written by Tim Sittler, CFP®, CAIA