Thoughts on the Collapse of Silicon Valley Bank
What Happened to Silicon Valley Bank?
Silicon Valley Bank (SVB), the 16th largest bank in the U.S., worth more than $200 billion, collapsed on March 10th, initially leaving many depositors unable to access their accounts. Although bank failures happen with some regularity in the U.S., this one in particular has roiled the financial markets and brought a great deal of scrutiny from regulators and investors, including many of our own clients. Here are some thoughts on the event and the unique circumstances behind it, as well as potential implications for the financial sector and the overall economy.
SVB had been a successful bank and somewhat of a darling of the tech sector, catering to many early-stage software and biotech companies. As these companies received funding from venture capital firms or initial public offerings, they deposited large amounts of cash with SVB for payroll and other business expenses. At the same time, as banks normally do, SVB used these funds to make loans, mostly business loans, and in many cases to technology companies in various stages of development. Ultimately, this concentration of customers in the tech space, combined with rising interest rates and some poor investment decisions on the part of SVB management, led to the bank’s demise.
As investments in the tech sector grew in 2020 and 2021, SVB’s deposits also grew substantially. However, opportunities to lend those funds prudently were not as great, due to the risk characteristics of their clientele. As a result, much of the deposit base was invested in U.S. Treasury securities. Unfortunately, due to the low interest rate environment at the time, SVB’s management decided to invest in long-duration treasury securities to increase the return on those investments. When the Federal Reserve increased interest rates sharply in 2022, the value of those securities plummeted. These rising interest rates also reduced the profitability of many of their tech company depositors, requiring them to make withdrawals earlier than SVB initially expected to meet their operating demands. As the bank was forced to sell the securities at steep losses to meet depositors’ withdrawal demands, the financial situation deteriorated rapidly, resulting in a classic “run on the bank” scenario. The method of this "bank run" was also unusual in that it was done electronically, which allowed a staggering $43 billion to be withdrawn in one day.
What Does This Mean For Financial Markets and the Economy?
Clearly, SVB’s collapse stems from circumstances unique to the bank and its management as opposed to a systemic problem in the banking system. This event, however, has brought much more scrutiny to the financial sector as a whole. In the past several days, we have also seen the failure of Signature Bank in New York, and intense speculation about the financial health of Credit Suisse, a large global bank based in Switzerland. Signature Bank had a large exposure to cryptocurrency and Credit Suisse was beset by problems for many years before the SVB collapse. Nevertheless, these events in rapid succession have triggered a strong response from the U.S. Federal Reserve, which among other actions has implemented a program that allows banks to borrow from the Fed to cover depositor withdrawals, rather than sell investments at reduced values and sustain capital losses. The Fed has also stated that it will resolve the SVB situation "in a manner that fully protects all depositors." Stock values, particularly in the financial sector, are reflecting investor concerns with these events, and perhaps with the overall strength of the global banking system.
Perhaps just as importantly, as central bankers gauge the impact of these events on the financial system, they are reassessing plans for further increases in bank borrowing rates. The Federal Reserve is scheduled to meet next week to consider another interest rate hike, and speculation is that they won’t be as aggressive with this increase in the current environment. The European Central Bank met on March 16th and implemented a 0.5% increase to their benchmark interest rate, as expected. Although these events might influence monetary policy decisions in the short term, the impact on stock prices is likely to be muted, as central banks continue to grapple with the larger issue of inflation. As we said at the beginning of 2023, stock prices are likely to remain volatile this year, due to stubborn inflation and other global economic issues, and now as the market assesses the implications of the SVB and Signature Bank failures.
Should I Be Concerned About My Bank Deposits?
It is completely natural to be concerned about recent events in the financial markets; however, there are several important issues to consider with respect to your own bank deposits. First, as discussed above, the failures of Silicon Valley Bank and Signature Bank resulted from some unique circumstances and, in our view, are not indicative of the overall strength of the financial system. Second, the Federal Deposit Insurance Corp (FDIC) provides deposit insurance up to $250,000 for an individual or business account, and up to $500,000 for a joint account. Credit unions offer the same coverage if they are a member of the National Credit Union Administration (NCUA). Third, the Federal Reserve strengthened bank regulation and capital requirements significantly following the Great Recession. Although many of the requirements apply only to the largest banks, those large banks, and the financial system in general, are much stronger today than they were in 2007.
So, although we are concerned about these recent failures and are watching developments very closely, we remain confident that the banking system overall is in good shape. Bank failures do happen, and it’s impossible to completely rule out such failures going forward, but we believe they remain very unlikely. If you have additional questions about deposit insurance or how best to manage your cash reserves, including reserves in excess of the FDIC insurance limits, please contact us to discuss further.
About the Author: Kevin Fix, CPA / PFS is a fee-only fiduciary Senior Financial Advisor at Fullen Financial Group. He has worked for more than 25 years in accounting and finance, with much of his career spent in public accounting and company financial management. He has extensive experience managing finances and investments for individuals, small business owners and large corporations. Kevin earned his CPA license in 1992 and became an independent Registered Investment Advisor in 2011.
Kevin earned Bachelor’s degrees in Accounting and International Studies from Miami University, and a Master’s degree in Business Administration from the University of Chicago Booth School of Business. He is a member of the American Institute of CPAs and their Personal Financial Planning practice section. Kevin lives in Upper Arlington with his wife, Amy, and their three children, and is an active member of the business community.
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