Will SVB be the first in a series of financial institution failures?
Over 1.8 million professionals use CFI to learn accounting, financial analysis, modeling and more. Start with a free account to explore 20+ always-free courses and hundreds of finance templates and cheat sheets.
On Friday, March 10, 2023, the Californian banking regulator ordered the closure of embattled Silicon Valley Bank and appointed the FDIC as receiver of the bank’s assets. This marks the largest bank failure since the Global Financial Crisis in 2008 caused the collapse of Washington Mutual, as well as brokerages Bear Sterns and Lehman Brothers.
While the market is reeling from the news, the Twitterverse is saying that this a “Lehman moment.” But what really happened, and can this be the first domino in a series of financial institution failures?
Silicon Valley Bank was a California-based lender that specialized in catering to tech companies and startups. While some may have borrowed from SVB, many companies and their employees also placed their deposits with the bank. As recently as December of 2022, SVB was among the 20 largest banks in the US, with assets over $200B at the time, roughly 40% in loans and 60% in investment securities (compared to a more conservative 28% at Bank of America).
However, since the Federal Reserve in the US started aggressively hiking policy rates in 2022 from effectively 0% to 5% within a year, it has led to a double whammy for banks like SVB. Firstly, the higher rate environment has made it more difficult for startups as the cost of borrowing for them is higher and the sell-off in tech stocks, digital assets, and the failures of crypto exchanges certainly hasn’t helped. Secondly, and more importantly, higher rates have led to falling prices for existing bonds that SVB and other banks have held in their investment portfolios.
Normally, for banks who don’t need to liquidate those bonds, the fluctuation isn’t too troubling if the bank can hold onto those investments until they mature and are made “money-good” when the borrower returns the principal. When rates were low, some banks chose to buy bonds that were longer-dated since shorter-dated debt securities were yielding so poorly. However, the aggressive rate hikes from the Fed caused many of the longer-dated bond holdings of those banks to be underwater.
When the noise started around the balance sheet issues of banks like SVB, depositors wanted to get their money out of the bank. This meant that SVB was forced to sell an estimated $21B dollars of longer-dated US government bonds and mortgage-backed securities at a loss in order to meet demand. This translated into an approximately $1.8B real loss for the bank, and when efforts to raise capital via a stock offering on Thursday was announced, the run on the bank intensified, with Peter Thiel’s Founder Fund advising all portfolio companies to take their deposits out of SVB.
This led to the FDIC stepping in to protect the depositors and effectively enact an orderly disposal of the bank’s assets to return as much as possible to the depositors, which may wipe out much of the value of the equity holders of the bank’s parent, SVB Financial Group.
However, the question is whether this is the same as what happened in 2008 with Lehman.
SVB Today vs. Lehman in 2008
In my opinion, this is not the same as what happened in 2008. While it is true that Lehman Brothers, Bear Stearns, Washington Mutual and AIG suffered from poor investments in debt of the US housing sector, what we had there was very different than what we have now.
For starters, those financial institutions were facing an issue with interbank lending drying up. They were unable to borrow even when rates were effectively zero as the assets that they were holding faced severe credit losses. That is a very different scenario than the one we are facing now as the assets that were being sold were US-government issued or backed securities. So, while the rate hikes have certainly hurt the mark-to-market value of those debt instruments, they are still money-good.
Secondly, this is not an interbank issue. If it were, SVB would have simply been able to use their US government bonds in their portfolio to guarantee their interbank liabilities or even transfer them to other banks to fulfill their obligations. The situation with SVB is depositor-driven — a classic bank run. The fact that SVB had 40% of their assets lent to tech companies and startups makes it very difficult for them to demand their loans back as these companies often are not cashflow positive.
Hence, this is very different from a systematic liquidity crunch for the entire banking sector but rather more limited to a few individual banks. Most US banks are generally in a strong financial condition — we could also see another bank step in to purchase the assets of SVB, which would make depositors whole. Additionally, after the GFC, the US has shored up government facilities to ensure ample and fast access to liquidity to deal with situations just like this.
What Happens with SVB Next?
The FDIC stepping in should help limit the contagion caused by a case of poor balance sheet management by SVB.
The Fed has also created a new lending facility available to all banks, called the BTFP (Bank Term Funding Program), which offers loans of up to 1 year for all depository institutions in the US which can pledge US Treasuries as collateral at 100% of the face value, since they are issued by the US government anyway.
These actions, while potentially creating moral hazard in the future, have staved off larger scale contagion to the broader financial markets and made sure that we aren’t facing a Lehman Brothers moment, the question is what a failure of a niche-focused bank like SVB might mean to lending to the tech startup sector, that remains to be seen.
Take your learning and productivity to the next level with our Premium Templates.
Upgrading to a paid membership gives you access to our extensive collection of plug-and-play Templates designed to power your performance—as well as CFI's full course catalog and accredited Certification Programs.
Already have a Self-Study or Full-Immersion membership? Log in
Access Exclusive Templates
Gain unlimited access to more than 250 productivity Templates, CFI's full course catalog and accredited Certification Programs, hundreds of resources, expert reviews and support, the chance to work with real-world finance and research tools, and more.