The bank that gave the world the jitters

Silicon Valley Bank (SVB), a 40-year-old institution, bigger than the BNZ Bank and ANZ Bank (in New Zealand) combined, and as of last week the 16th largest American bank, was formally taken over by the US Federal Government on Friday March 10, after a run on the bank’s deposits.  It had $42 billion withdrawn within two days which, of course, led management to raise its collective hand to seek help.

SVB is the banker for a large number of technology companies and was not able to meet the rush of withdrawals:  Quite simply the deposits, cash balances etc it held for customers were effectively on-call or able to be withdrawn by those customers at a moments notice.  But, the bank’s assets (or those securities into which it has invested customer deposits) from which it would typically fund these withdrawals were effectively locked-up in a bunch of long-dated assets.  A classic mis-match and a disaster should something cause a “run” on the bank.  Why the loss of confidence from depositors and the “run”?  As the US Federal Reserve (Fed) has yanked up interest rates over the past year or so to combat inflation most bond prices and values, but particularly those with longer terms, have fallen sharply in value.  With a lot of its assets invested in longer-term US Treasury bonds as mentioned above, SVB had sustained losses on some of these holdings.  When these losses were disclosed and reported to the market, the red ink understandably caused many customers to withdraw / pull their deposits.  This snowballed at a rapid rate in a matter of days and led to the bank’s failure by Friday of last week.

I thought it might be useful to comment here on a couple of aspects concerning the SVB collapse:  the first is just how often or commonplace are US bank collapses, and second, what does it mean if anything for financial markets and to us here in New Zealand, with contagion being front of mind…

SVB’s administration order last week is the first such failure since 2021.  However, eight banks with assets of US$672 billion failed in 2018-20, (SVB’s assets were approx US$200 billion). In and following the GFC between 2008 and 2012, 465 banks failed with total assets of around US$700 billion.  Since 2001 the FDIC reported 562 bank failures, with only five years when there were no failures.  So, bank failures might not be all that uncommon.  Unlike other countries, the US is a confusing landscape of many various types of banks (e.g., State, community, non-community), with management teams using the different rules and requirements and of course political differences to alter the regulations in their favour.  The wide range of business models that come from this quilted landscape do not always lead to success – clearly.  Given that the US has around 4,700 banks under various charters, regulated by different statutes and overlapping supervisory and regulatory authorities, it might be surprising that failures are not more common.  However, since 1800, there have been only seven systemic banking crises, and just two since 1945 (they were the Savings and Loans crises of the 1980s and, of course, the GFC).  Although one should not be blase, the US banking system historically has proven remarkably resilient.

So, what does this (latest) collapse mean then?  In the US, depositors are Federally insured for deposits up to US$250,000.  Sadly, these amounts represented only a very small portion of its customer base and many entities had balances well in excess of this level.  At Sunday night at 8pm (US time), the US Treasury, Federal Reserve and Federal Deposit Insurance Corporation released a joint statement that they were taking decisive actions to “fully protect all depositors” who will have access to all of the money starting Monday (US time).  President Biden stated that no losses will be borne by the taxpayer, but SVB shareholders and certain unsecured debtholders will not be protected.  The release went on to say “the US banking system remains resilient and on a solid foundation” and re-affirmed commitment that they would “take the necessary steps to ensure that depositors savings remain safe”.

This was good news for financial markets, but I would expect to see continued volatility particularly among listed banks share prices in the weeks ahead as investors grapple not only with the fallout but also what this might mean for interest rates herein.  There is already well-founded speculation that the Fed will pause further hikes to its Fed Funds rate for a while.  Technology companies are particularly vulnerable given many banked with SVB.  These companies even include some NZ start-ups and listed NZ companies.  Infratil’s US renewable energy company, Longroad Energy, for example has been a long-standing partner of SVB’s climate change focused initiatives.  Big banks such as JPMorgan will benefit given their solid capitalisation and standing but smaller regional US banks are at risk of contagion should customers proactively shift deposits to where they perceive safety.  A small US bank, Signature Bank, announced on Sunday that it was also subject to similar measures as SVB.  Safe haven assets like gold have also seen buying in the wake of SVB .

To me the big impact from SVB and to a lesser extent Signature is on interest rates.  It is the sudden spike in inflation and therefore interest rates over the past 18 months or so that has caused asset prices everywhere and in nearly every asset class (shares, real estate, bonds etc) to fall.   While banking confidence is in the process of being necessarily restored, the US Fed is in a bind, as it clearly had felt that the job is not done on taming inflation.  They will be reluctant to get too dovish too early, risking a loosening in financial conditions and the chance of getting “behind the inflation curve” again as it was so obviously back in late 2021.  Regardless, the Fed may see this as a shot across the bow and decide to slow the pace of tightening anyway.