The banking sector has been dominating the headlines over the past several days, and so we wanted to briefly comment on what is going on in the space. To recap:
- On March 8, Silicon Valley Bank (hereafter referred to as SVB) announced that it had lost a meaningful amount of money in its investment accounts, and that it would seek to raise ~$2.25bn in new equity to restore its equity cushion as a result of the loss. Apparently the bank had purchased a large amount of long duration bond securities when interest rates were very low, and suffered a loss through 2022 as interest rates rose.
- That equity raise subsequently failed, which triggered a run on the bank, triggered by Venture Capital firms who reportedly advised their clients to withdraw funds given the failed equity offering
- The run on the bank became more and more aggressive, and by Friday morning California regulators stepped in to shut the bank down and place it in receivership under the Federal Deposit Insurance Corporation
Now, first and foremost, could this effect you personally? The short answer is – probably not.
- None of our custodians held customer cash or deposits at SVB
- SVB represented 0.02% of the market value of the S&P500 when it collapsed, and thus we do not expect there to be any measurable impact on the value of a well-diversified portfolio
To understand why the news cycle around this has been so volatile, we need to understand something about bank runs. All banks are in the business of taking deposits and then making loans. Deposits typically come in the form of checking accounts, savings accounts, CD’s, etc. They may be from individuals or from companies who are seeking to manage their corporate cash. The banks take these deposits and then loan out the cash, typically over a longer duration and at a higher interest rate. The banks make money on the spread – you deposit cash in a savings account at 3%, and the bank then lends it out as a 30 year mortgage at 6%, earning the spread between the two interest rates. They also keep some amount of liquid cash on hand in order to meet the needs of normal inflows and outflows into the bank.
A “run” on the bank is when the depositors of the bank all decide that they want all of their money back at the same time, usually due to fear. The cumulative withdrawals of a large number of clients may be sufficient to overwhelm the bank’s short term liquidity, creating a crisis. It doesn’t mean that the bank is worthless, but rather that they don’t have enough cash on hand to meet the needs of all of the people that would like to make withdrawals.
Once a run on a bank starts, it is nearly impossible to stop. Even if you are just the slightest bit worried about the credit quality of the bank, it behooves you to move your deposits elsewhere, somewhere that you perceive is safer. Maybe the bank is fine, maybe it’s not, but you certainly aren’t going to sit around to try and find out when you can change your banking relationships with a couple of mouse clicks. And therein lies the problem – the run on the bank becomes a self-fulfilling prophecy as depositors get scared and yank their deposits in what otherwise was probably a sound financial institution.
Over the weekend, fear started to develop that maybe SVB wasn’t the only bank with problems, which might result in runs starting at a number of other banks. In response, the Fed stepped in with a number of policies designed to restore confidence. Chief among these was waiving the $250,000 account limit for FDIC insurance for the SVB failure – everyone who had money on deposit at the bank will be made whole. They additionally took steps to ensure that other banks had available funding to meet the needs of depositor withdrawals. In doing so, the Fed is looking to prevent any further runs on the banking system, particularly for the smaller banks in the system.
As always, if you have any questions on this, please feel free to reach out to your Advisor.