March 13, 2023
Forefront‘s Monday Market Update
Silicon Valley Bank
I have gotten a ton of questions this weekend about what actually happened to Silicon Valley Bank and how can the 16th largest bank in the USA go into receivership within 48 hours. So here is a high-level breakdown of what really happened without the spin the news tries to put on it.
Who is SVB?
SVB is a bank that’s primary market is Silicon Valley, so think Venture Capitalists and the funds they run. These were a large chunk of their customers, but so were all the startup companies these VC funds were backing. So, when I pay my admin and the rest of my team, that money comes directly from my business bank account, just like all businesses have when paying their staff and business expenses.
To create a clear distinction, these Venture Capitalist funds were not investing in SVB; they were utilizing their banking services as customers of SVB. As the government backstops depositors this morning, we will hear much talk about a “bailout.” This was not a bailout, at least not like in 2008 when the government injected liquidity to prop up the company and try to give bondholders and shareholders something back. In this case, bondholders and stockholders have been wiped out, and the only thing the government is doing is backstopping the deposits that the bank has taken in from their customers.
During the pandemic, startups and other VC-backed companies raised boatloads of money. According to Pitchbook, which tracks this data, VCs raised $154.1 Billion in 2021 and $162.6 Billion in 2022. Of course, that money must be put somewhere, and most start-ups are taking that investment and putting it into the bank to pay for operating costs as time goes on. SVB was a direct benefactor of those cash raises and had a tremendous amount of deposits coming in.
As ALL banks do, when they take in deposits, they can do one of two things with that money. The primary way that all of us are familiar with is the bank taking in deposits, paying X in interest, turning around, lending the money out in the form of mortgages and loans, and charging an interest rate of more than X. The spread between what they pay a depositor, and what a borrower pays them is how the bank makes money.
The second thing the bank can do, if they can’t lend the money fast enough, is to buy low-risk investments such as treasury bonds. Effectively they lend the money to the US Government, which is okay because, like all banks, the assumption is that not everyone will need their cash all at once. This is a fundamental concept that underlies our entire banking industry.
Since many of SVB’s customers were startups and in 2023, we have seen significantly less money being raised by startups, but they are still withdrawing money, often at the same time, to make payroll and pay bills. As these significant withdrawals continued, SVB did not have the cash on hand.
Here is the big question, why didn’t they have the cash on hand? Well, it goes back to that fundamental principle underlying our banking system that not everyone will need their money at the same time….. until they do! So what happens when you don’t have enough cash on hand? Of course, you sell investments, but since they took in so much in deposits in 2021 and 2022, they bought treasury bonds at much lower yields than we see now.
Quick economics lesson, when interest rates go up, the price of existing bonds will fall.
SVB had to sell lower-yielding bonds at a significant loss to raise cash for customer withdrawals. Once this news got out, panic followed, causing customers to move their money/withdraw their money from the bank droves—a bank run in its purest form. SVB was out of cash, and the stock price had collapsed, so going to the public markets for assistance was not an option.
The Federal Government and FDIC have stepped in and told all depositors they would have access to their funds this morning. The bank is not being saved, and the shareholders and bondholders will lose their money, but the people who put their money into the back expecting it to be safe will not bear the brunt of this incredible failure of risk management.
Regional banks will see their stock prices hit hard out of panic, but it does not appear to be a contagion or will spread in the financial sector overall. Oddly, on Friday, there was a feeling of almost certainty that the FOMC would raise interest rates by .50% during their meeting on March 22nd. Still, this morning the likelihood of that happening has plummeted, according to market prognosticators. Goldman Sachs even came out yesterday and said they think there might be an interest rate cut on March 22nd. All of this should be taken with a grain of salt. The Fed might slow down rate hikes to ensure no other banks will suffer the same fate as SVB, as rates rising as quickly as they have was a driving force behind their fall.
I can’t imagine an interest rate cut, and I would be interested to see what data Goldman is using to put out that opinion, but I suspect it is rooted in nothing but sensationalism.
Lastly, if we go back to 2013, we have had seventy-two bank failures over the past decade. In most cases, we didn’t even hear about them because they didn’t make for much of a story, but SVB provided a sensational story to stir emotions and make for great TV. This is one of those times where you must ask yourself, do you ignore the news and be uninformed, or do you watch the news and be misinformed? Don’t hesitate to call or email me with any further questions you have that won’t get answered by CNBC or any other talking heads.
Stock market calendar this week:
|MONDAY, MARCH 13
|TUESDAY, MARCH 14
|NFIB Optimism index
|Consumer price index
|CPI (year over year)
|Core CPI ((year over year)
|WEDNESDAY, MARCH 15
|Retail sales ex autos
|Producer price index
|PPI (year over year)
|Core PPI (year over year)
|Empire State manufacturing
|THURSDAY, MARCH 16
|Initial jobless claims
|Import price index
|Philadelphia Fed manufacturing
|FRIDAY, MARCH 17
|U.S. leading economic index
Most anticipated earnings for this week:
About Amit: I am a first generation American, the son of a working-class Indian family, and I lived through my parents’ struggle to find their place in this country, to put down roots that would sustain them as well as their children in a new land. As they encouraged me to excel in school and fostered my hobbies and interests, I was keenly aware of the dynamic between them. I understood that there was a difference between where they came from individually and where we were now. They worked hard in their individual capacities, but they weren’t always on the same page about financial issues – and that can make or break a family’s future. I didn’t know it at the time, but this laid the groundwork for my passion towards financial services and helping families succeed.