On March 10th, Silicon Valley Bank (SVB) was officially shut down by the California Department of Financial Protection due to SVB’s inadequate liquidity. While bank failures are more common than one would think—typically multiple happen each year—we haven’t seen a bank failure in the US since October 2020. We also haven’t seen a bank failure of this size since 2008. Prior to its fall, SVB was the 16th largest bank in the US.
While this may feel like shades of 2008, the factors that led to SVB’s demise are very different. Leading factors include:
- A concentrated customer base in the technology sector, venture capital, and startups. Funding has dried up over the past year for these clients, meaning less deposits incoming and more withdrawals being processed.
- A deposit base that tripled from 2020-2021 while rates were held near zero. This caused SVB to reach for longer duration Treasurys and mortgage-backed securities to generate yield on these deposits.
- An investment portfolio that had a high credit quality of US Treasurys suddenly experienced large unrealized losses as interest rates rose from 0% in 2020 to nearly 5% in 2022.
- Most of these longer duration investments were labeled as Held to Maturity (HTM) securities, which limited SVB’s ability to liquidate these investments to meet customer withdrawal requests without realizing large losses.
- Over 90% of the bank’s customer deposits were over the FDIC limit of $250,000.
When the bank’s liquidity profile became clearer, customers became worried that their uninsured deposits (those over $250,000) could become at risk. This led to an increase in the number of withdrawals, which led to more liquidity issues, which led to more withdrawals. In other words, SVB was experiencing a bank run. On March 9th, SVB had seen over 25% of its deposits flee. Withdrawals and requests continued to pour in on March 10th until the bank was taken over by regulators and shut down.
So how is this different from 2008?
In 2008, banks were doling out bad loans to customers with poor credit ratings. 2008 was a credit crisis. SVB wasn’t making bad loans, it was investing in one of the safest asset classes—US Treasurys. SVB faced a liquidity crisis. SVB did a poor job of managing interest rate risk and didn’t account for the odds that inflation could remain higher for longer and that the Federal Reserve (the Fed) would need to raise interest rates quickly to combat this inflation.
In 2008 banks made loans that ultimately would never be repaid. SVB, today, still owns US Treasurys. Although, if sold today, they would experience a haircut on the sale of these securities, customer deposits can still largely be repaid.
What is the fallout from SVB’s collapse?
In a joint press release Sunday night, Treasury Secretary Yellen, the Fed, and the FDIC announced that all depositors in SVB will be made whole and would have access to their funds today. They also announced that no losses associated with making SVB depositors whole would be borne by taxpayers. As part of the Dodd-Frank regulation that was rolled out after the Great Financial Crisis, banks were required to pay into the Deposit Insurance Fund (DIF). This fund was put in place to protect depositors of failed banks and currently has $100B available to bridge the gap between the customer deposits that still need to be repaid by SVB and the value of the assets at SVB that can be sold.
This, however, is not a bailout. Equity holders and creditors of SVB will not be made whole. They will lose everything they had invested in SVB.
It was important for these steps to be taken. Without the backing of deposits at SVB and the read through that deposits would be backed across the country, we could have seen additional bank runs this week. While this should stem the tide of bank runs and prevent further systemic bank collapses, banks still have an issue on their hands. Most banks, particularly large national banks, are still offering near 0% interest on customer accounts. When customers can receive 4%+ in money markets and short-term US Treasurys, why would they keep their funds in a bank account? As banks grapple with this question, they must weigh the risks of falling deposits against lower margins if they choose to be more competitive with money markets and Treasurys by raising their own rates on interest bearing accounts.
We remain confident in the positioning of our clients’ portfolios despite the recent events at SVB. While this event may cause volatility in the markets, we remain focused on investing in companies with strong, stable balance sheets and sufficient liquidity to weather financial storms.
As always, we appreciate the trust you place in us. If you have questions or concerns, please don’t hesitate to reach out to our team.
The opinions expressed are those of PYAW’s Investment Team. The opinions referenced are as of the date of publication and are subject to change due to changes in the market or economic conditions and may not necessarily come to pass. Forward looking statements cannot be guaranteed.
PYA Waltman Capital, LLC (“PYAW”) is an investment adviser registered with the U.S. Securities and Exchange Commission. Registration does not imply a certain level of skill or training. More information about PYAW’s investment advisory services can be found in its Form ADV Part 2, which is available upon request. PYA-23-13.