The markets were roiled the week ending March 10 by the collapse of the SVB Financial Group (NASD:SIVB), the banker to more than half of the US technology and healthcare startups. The fall of SIVB not only reverberated though the US financial sector but rippled throughout global markets, banking stocks in particular. SIVB was the 16th largest US bank before it became the largest collapse since the financial crisis of 2008 and the second biggest failure of a financial institution in US history.
But the damage was not limited to SIVB. American banks alone lost over US$100 billion in market value over Thursday and Friday. European banks lost another US$50 billion in value. I could not find any number for the Canadian banks, but the three banks in the Portfolios were all dragged down by the failure of SIVB, as you can see in the chart below.
What happened?
If you have not followed this story, here is my understanding on what brought down the America’s 16th largest bank and led to the closure of New York’s Signature Bank (NYSE:SBNY). Together these two banks became the second and third largest banking failures in US history.
For demonstration purposes, lets use 0.5% as the rate SIVB paid to its customers and 1.5% as the interest it received from the US government.
During the market boom of 2020 – 2021, the SIVB was raking in the deposits hand over fist. During that period, it was paying a variable interest rate of 0.5% to its customers. To make money to cover the interest payments to its customers, the SIVB took out a large position in US Treasuries that paid them a fixed rate of 1.5% over a 10 year or more period. The bank was receiving a full 1% more than they were paying their customers. The key here is the rate to customers was a variable rate while the rate the bank received was a fixed or locked in rate.
This was fine until the US Federal Reserve (Fed) started to raise the interest rates to where they currently sit at 4.5%, and likely to go higher by March 22, 2023. Remember SIVB was paying its customer a variable rate? The rate they were paying out rose to 4.5% when the Fed raised interest rates to fight inflation. Also remember the rate they were receiving money was at 1.5%. They were now paying out 3% more than they were receiving.
When interest rates rise, the value of bonds with a fixed rate goes down. Another effect of the higher interest rates was the value of the bonds they owned dropped. However, that was a paper loss since they haven’t sold the bonds.
As 2022 progressed, access to money became more expensive and many of SIVB’s corporate customers started to access their cash. To give customers their money, SIVB had to sell US$21 billion of those bonds at a loss of US$1.8 billion. Upon the sale of the bonds, the losses became real, and they had to be recognized on their financial statements. SIVB also announced an offering to raise US$2.25 billion to cover the losses caused by the sale of the bonds.
When the bank’s customers realized the bank was short on cash it started a run on the banks remaining cash. When investors heard what was happening, they dumped their SIVB shares as fast as possible, sending the share price from US$268 down to US$165 in afterhours trading. On Thursday, customers tried to withdraw US$42 billion of deposits. By the end of the day, the shares were down to US$106. With the collapse of the share price the offer was dead in the water. At 8:35 am on Friday, before the start of the regular trading hours (9:30 am), Nasdaq halted the stock.
After SIVB was unable to raise capital though their proposed US$2.25 billion stock sale, California regulators stepped in and shut SIVB down and put it into receivership to protect depositors. The Federal Deposit Insurance Corporation (FDIC) was assigned as the receiver to liquidate the bank’s assets in an orderly fashion to pay back the depositors. Over the weekend, the FDIC tried to find a buyer for SIVB but were unable to find one.
By Sunday afternoon, to prevent further runs on banks, Signature was shut down by New York State regulators saying it faced similar risks to those that brought down SIVB. According to New York State officials, “the bank failed to provide reliable and consistent data, creating a significant crisis of confidence in the bank’s leadership.”
Finally, Sunday evening, the US government (U.S. Treasury, the Fed, and FDIC) said it was not bailing out the banks, but it would fully protect every depositor at SIVB and Signature, even if the amount exceeded the US$250,000 limit insured by the FDIC. In addition to ensuring depositors received all their money, the Fed announced a US$25 billion emergency loan program for banks to support the US banking system and prevent further runs from spreading through the banking sector. Government officials made it clear that “no losses will be borne by the taxpayer,” instead a special assessment on banks, as required by law, will be used to help uninsured customers.
On Monday, SIVB customers were able access to their cash. For shareholders of both banks, the story doesn’t end so well. Because the banks themselves are not being bailed out, only depositors, those who invested in shares or bonds of SIVB are not protected. For those who own shares in SIVB or Signature, consider your shares worthless. If its any consolation, government officials said senior executives of SIVB and Signature had been removed. The first of what are likely to be many lawsuits was initiated against SIVB’s holding company, its CEO and CFO. On Tuesday, lawsuits were filed against Signature and its top executives.
Many individuals and private businesses that did businesses with smaller regional banks were understandably nervous on Monday. To restore confidence in the US banking system and avoid runs on the smaller banks, US President Biden promised to bring in regulations to make it less likely for this type of failure to happen in the future and stated, “Americans can have confidence that the banking system is safe. Your deposits will be there when you need them.”
Who was affected?
Besides individual customers and private businesses, many technology companies had hundreds of millions of deposits at SIVB, most of it was likely uninsured. For example:
- Roku (NASD:ROKU) had approximately US$487 million, or almost 26%, of its US$1.9 billion in cash at the bank.
- Roblox (NYSE:RBLX) had US$150 million, or 5%, of its US$3 billion in cash.
- AcuityAds Holding (TSX:AT) had US$55 million, or 90%, of its US$60 million of its cash deposits.
Following the collapse of SIVB, on Sunday Canadian regulators took temporary control of SIVB’s Canadian operations. The collapse of SIVB could severely curtail funding for Canada’s technology start-ups, leaving few options other than Canada’s big five banks who are more conservative when it comes to financing new ventures.
The collapse of SIVB is an example of how the Fed’s, and other central banks, battle with inflation is putting stress on the financial system and global markets. Higher interest rates have left banks loaded with low-interest, long term bonds that they are unable to sell quickly without incurring big losses. If too many customers suddenly withdraw their cash, and the bank needs to sell bonds to meet the cash demands, it risks getting into a death spiral like the one that claimed SIVB.
I find it ironic that the companies who conceivably owe their existence to funding from SIVB, and left the money on deposit at SIVB, were the same ones who helped set off a run on the bank’s deposits that delivered the coup de grace.