From 2019 to 2021 SVB’s deposits tripled from $61.76 Billion to $189.2 Billion. As I am sure you are aware, when you deposit money into a bank, they in turn take your money and invest through lending that money out. However, in SVB’s case, the influx of cash from 2019-2021 happened so quickly that they were unable to grow their loan book quickly to appropriately reflect their cash positions. Since they were unable to grow their loan book quickly enough, they looked for alternative ways in which to invest this huge influx of cash. At that point they turned to Mortgage-Backed Securities. This may trigger a flashback in your brain as these were one of the main contributors to the financial crisis in 2008.
Mortgage-Backed Securities are essentially bundles of home loans (and other real estate debt) packaged into bite size pieces purchased from the bank that issues the debt. In essence, they purchased debt from other banks. The lion’s share (97%) of this debt was purchased with a 10+ year duration with an average yield of 1.56%. As of writing this, the two-year treasury bond rate is 4.593%, essentially three times the rate SVB was getting in their Mortgage-Backed Securities. It doesn’t take a rocket scientist to realize that securities producing a yield of 1.56% are worth significantly less than less risky securities that are producing a yield of nearly 4.6%. Investors had already seen this as a huge problem as SVB’s stock price decreased to nearly $280/share nearly a week ago, off from a high of over $750/share a little more than a year ago. Even with all this bad news, investors thought SVB would pull it out (albeit less profitably) as having these lower yielding securities was not a death sentence as long as they could retain enough liquidity to hang on to them until mature and then at that time re-invest at higher rates.
Waving Red Flags
As you have probably concluded, SVB did not hang on to these investments. They sold over $20 Billion in these investments at a nearly $2 Billion loss. In addition to signaling the need for liquidity with this sell-off, they also announced an initiative to raise an additional $2.25 Billion through equity and debt. Obviously, this was a big signal to both investors and depositors that their liquidity was not in good shape, and this caused a good, old-fashioned run on the bank with many customers seeking to pull out their funds (think It’s a Wonderful Life). Obviously, a bunch of people wanting to pull money out all at one time ($42 Billion in withdrawal requests on March 9th alone) causes big liquidity issues for the bank. They simply do not have that much cash on hand, as much of it is deployed via loans and other long-term investments.
With SVB unable to fulfill the withdrawal requests, the FDIC stepped in and took over management of the bank. The FDIC ensures every American who has funds deposited at a bank up to $250,000. What really makes this situation interesting is that over 85% of SVB’s deposits were uninsured. This is largely due to many of the bank’s customers being tech companies. As of my writing this on the night of March 13th, 2023, Secretary Treasury Janet Yellen stated that the FDIC and the Federal Reserve are fully protecting all depositors. They also claim that none of the losses associated with the resolution of SVB will be borne by the taxpayer…No idea how that works…Seems like a fundamental misunderstanding of where the government’s money comes from to me.
So What About Other Banks?
This really does beg the question of if other banks are in trouble…obviously a collapse of our banking system would be absolutely disastrous for the overall economy!
It is worth noting some key differences SVB has compared to other banks. Due to their massive growth, a much lower percentage of SVB’s assets were leant out. Generally, as interest rates climb, banks are in a better spot financially due to higher interest rates on their loans. SVB having a lower percent of loans turned out to be a distinct disadvantage. Another key difference is SVB’s concentration in tech companies. While this led to the glut of deposits in the covid-era tech expansion, it also led to a glut of withdrawals as tech has waned over the past year.
Can it Happen to Other Banks?
The obvious answer to the above question is yes…but there are several factors that make it extremely unlikely. Most banks are much more diversified in their customer base. Also, very few grew their deposits as quickly as SVB did over such a short period of time.
Signature Bank was closed down by the FDIC just two days after SVB. While different, many of their woes can be boiled down to a concentration risk for them as well. Instead of tech companies they were cryptocurrency focused.
Obviously, regulators have a responsibility to shore up trusts in the banking system to prevent any sort of domino effect where bank after bank starts to fail due to a large concentration of deposits being yanked all at once. If this panic-driven behavior can be avoided, then I believe this incident will merely be small blip on the radar of 2023 at the end of the year.
Does this Change how We Manage Money?
As we always have, here at QED, we are focused on long-term investment planning. Our research-based investment strategy focuses on minimizing investor costs and eliminating timing errors by staying invested for the long-term. While our crystal ball remains cloudy in the short-term, we remain confident that we will see strong returns over the long-term. Call us today or go here to schedule an appointment.
This post is for educational and entertainment purposes only. Nothing should be construed as investment, tax, or legal advice.