After the failure of Silicon Valley Bank (“SVB”) last Friday and Signature Bank on Sunday (yesterday), the U.S. Treasury, FDIC and Federal Reserve are using emergency powers under the systemic risk exception to make whole all depositors, not just those with deposits under the $250k FDIC insured amount.
- We have been watching for what might “break” as the Fed drives interest rates higher in its effort to wring out inflation. Stress on the financial system has been growing, and this past week two banks “broke.”
- SVB had over $90 billion of its $200 billion balance sheet invested in long-dated U.S. backed securities that had declined in value by more than SVB’s bank capital. Other banks are increasingly vulnerable to similar stress.
- Since the pandemic, banks have been increasing their investments in bonds, surging to $5.5 trillion. As the Fed raised interest rates, the value of fixed income holdings declined. At the end of 2022, the FDIC reported unrealized losses on these securities totaling $689.9 billion in the third quarter of 2022 – a broader banking crisis potentially in the making.
- SVB’s problem was acute in that as much as 93% of its deposits were not FDIC insured and not from a diverse depositor base. For the average bank about 50% of deposits are FDIC insured. Word spread quickly within the VC community that SVB was in trouble, and so an accelerating run on SVB caused the FDIC to step in.
- Most of SVB’s deposits were from startups. The big mystery is why didn’t these startups put their money in a bigger, safer bank or in T-bills. Reasons are given, but not sufficiently compelling, to warrant the concentrated risk with a single bank; a bank that had itself taken a startling interest rate risk by concentrating its holdings in long-dated fixed income securities, just as the Fed was starting to raise rates.
- The good news is that SVB depositors will not lose their deposits, and the banking system, not taxpayers, will cover the cost. We are reminded, however, that the collateral damage from wringing out inflation is not yet fully seen.
The other big news last week was a better-than-expected jobs report — +311,000 new jobs and more folks entering the labor force. Fed Chair Powell also suggested in his report to Congress that interest rates may need to be higher for longer. This will depend on the February CPI inflation report tomorrow (Tuesday) and how the bank failures play out in the next couple weeks.
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