{"id":699,"date":"2023-03-13T15:56:45","date_gmt":"2023-03-13T15:56:45","guid":{"rendered":"https:\/\/www.wealthfor.us\/article\/?p=699"},"modified":"2023-07-11T01:24:16","modified_gmt":"2023-07-10T17:24:16","slug":"silicon-valley-bank-collapse-aftermath-is-fed-pivoting","status":"publish","type":"post","link":"https:\/\/www.wealthfor.us\/article\/silicon-valley-bank-collapse-aftermath-is-fed-pivoting\/","title":{"rendered":"Silicon Valley Bank Collapse Aftermath: Is Fed Pivoting?"},"content":{"rendered":"

The biggest US bank failure since the Great Financial Crisis of 2008 just happened last week. The bank is Silicon Valley Bank (SVB). SVB is among the top 20 largest banks in the US, with assets valued at over $200 billion. SVB just collapsed, and the regulator has taken over the bank. FDIC insures deposits up to $250,000; thus, those with balances up to that amount should not have any issues. Unfortunately, most SVB depositors have a lot more with SVB. Thanks to the prompt action by the regulators, all depositors ended up being made whole. A new lending facility is also introduced to provide liquidity to distressed banks. Wait a minute, a new facility? Are we injecting liquidity into the market?<\/span><\/p>\n

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What Caused Silicon Valley Bank to fail?<\/span><\/h2>\n

Silicon Valley Bank is popular among venture capital firms and technology startups. A significant percentage of them have a banking relationship with the SVB. During the 2019-2021 tech boom, SVB bank deposits increased three-fold. VC firms and venture-backed startups parked their cash there.<\/span><\/p>\n

\"Silicon<\/p>\n

Risk Management Failure<\/span><\/h3>\n

SVB had to lend out these incoming deposits to earn interest so that they could pay back some interest to the depositors. As they could not lend them all, they lent a big chunk of them to the US government, the most creditworthy of them all. They parked a significant portion into MBS and US Treasuries with long maturity of 3 years to 30 years.<\/span><\/p>\n

Here comes the SVB risk management failure: they invested depositors’ liquid money into long-dated bonds and securities, some even up to 30 years. What’s worse was that the interest rate of those bonds and securities was low. Knowing their illiquid investment profile, they still had no hedge against the interest rate movement. What a spectacular failure in risk management here.<\/span><\/p>\n

As the Fed hiked interest rates last year, the value of their bonds dropped. Remember, bond value has an inverse relationship with its yield. This is fine as long as the bonds are held to maturity, where the principal will be returned.<\/span><\/p>\n

The Fed Pivot and Tech Bust<\/span><\/p>\n

As the Fed raised the interest rates, liquidity in the market became more scarce. Easy money was over. New deposits were slowing down. Many unprofitable tech startups kept withdrawing money to fund their operational expenses. There was also competition from the higher-yielding US Treasuries. Why would depositors keep the funds with SVB when they could get a higher yield from the latest US Treasuries?<\/span><\/p>\n

The Collapse<\/span><\/h3>\n

Because they needed to keep serving the withdrawal requests, they started to have liquidity issues.<\/span><\/p>\n

Here’s the deal with our banking system: when you deposit $100 into your bank, you technically have access to that $100 all day. However, behind the scenes, the bank does not always have 100% of all depositors’ money available. They lend out your money to earn interest so that they can pay back a portion of it to you. This is called <\/span>fractional reserve banking<\/span><\/i>. Only a fraction of the deposits (at least 10%) must always be available. The assumption is that not all depositors want to withdraw their money at the same time.<\/span><\/p>\n

Remember, many of SVB’s assets were in long-dated bonds and securities. To shore up liquidity, they sold some of their holdings before maturity, triggering a massive loss. They sold $21 billion of their assets with $1.8 billion in losses. Eugh, that’s more than their previous year’s profit. They planned to raise capital by selling their shares to plug this massive loss.<\/span><\/p>\n

This was a red flag. The market panicked, and the share price tanked 60% in one day. After dropping so much in the past year, along with the latest drop, SVB’s equity value was only ~$6B. They still had more bonds to sell if they needed more liquidity and would incur even more losses. With the low equity value, the market panicked because SVB might be insolvent should further liquidity issues arise.<\/span><\/p>\n

\"SIVB<\/p>\n

As panic ensued, there was a bank run on SVB. Things escalated fast. You don’t want to be the last person to withdraw when there is a bank run. When a bank run starts, the process is fast, and collapse is inevitable. SVB CEO tried to calm the market to ensure their money was safe. Well, that’s again another red flag.<\/span><\/p>\n

As the bank run worsened, SVB tried to raise capital and looked for buyers unsuccessfully. Hours later, the regulator officially took over SVB.<\/span><\/p>\n

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What is the Impact of Silicon Valley Bank Collapse?<\/span><\/h2>\n

FDIC insures deposits up to $250,000 per depositor. So all is well then? Well, unfortunately, not for Silicon Valley Bank depositors. Unlike the other regional banks, SVB primarily served businesses in the Silicon Valley area. Their customer base was concentrated. 97.3% of the SVB customers have deposits exceeding the insured amount. Ouch\u2026<\/span><\/p>\n

\"Silicon
Only 2.7% of the depositors in SVB are within the FDIC insurance limit.<\/figcaption><\/figure>\n

Tech Ecosystem<\/span><\/h3>\n

Many tech venture firms and startups had a banking relationship with Silicon Valley Bank. They parked their cash with SVB. Most of their money was locked because it exceeded the insured amount. There was a worry that they won’t be able to fulfill payroll obligations to their employees. There could be a wave of layoffs and bankruptcies among the tech sectors. Realistically, their money will likely not be lost, and most will be recoverable. But, with the uncertain timeline, it is as good as a death sentence to early-stage startups. Tech innovation could have been postponed for many years.<\/span><\/p>\n

Other Industries<\/span><\/h3>\n

Is this contained just within the Silicon Valley technology venture firms and startups? Not really. Some companies have self-reported their exposure to SVB: Circle ($3.3 billion), Roku ($487 million), Bill.com ($670 million), BlockFi ($227 million), Roblox ($150 million), Sunrun ($80 million), Ginkgo Bio ($74 million), Ambarella ($17 million), LendingClub ($21 million), Payoneer ($20 million), Oncorus ($10 million), Eiger ($8 million), Sangamo Therapeutics ($34 million), Protagonist therapeutics ($13 million), and more. They would have faced short-term operational issues if their deposits were locked.<\/span><\/p>\n

Crypto Contagion<\/span><\/h3>\n

Circle, the issuer of USDC stablecoin, was one of the depositors in SVB. Unfortunately for them, $3.3 billion of their $40 billion reserve was locked. That represented about 8% of its total reserves. USDC stablecoin, which is always supposed to be equal to $1 at all times, de-pegged immediately after the news. It reached as low as $0.88 before slowly recovering the peg.<\/span><\/p>\n

\"USDC<\/p>\n

Other stablecoins also de-pegged, as many have USDC as their collateral backing. Some of the de-pegging events were more of the market overreaction, but this highlights the systemic risk of the SVB collapse.<\/span><\/p>\n

Contagion to Other Regional Banks<\/span><\/h3>\n

There have been rumors that other regional banks may also have unhealthy balance sheets and are vulnerable to a bank run. People were fearful as they had not seen such a bank failure at this scale in a long time. These regional banks are not ‘too big to fail’; thus, relying on the federal government to bail them out is a rather big ask. People have no strong incentive to hold their money in these regional banks. Why not just use the ‘too big to fail’ banks? Better safe than sorry, right?<\/span><\/p>\n

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The Resolution<\/span><\/h2>\n

Late Sunday, 12 March 2023, the Treasury, Federal Reserve, and FDIC released a joint statement<\/a> to address the situation.<\/span><\/p>\n