Editor’s note (March 12th): Since this story was published, the Federal Reserve and the Treasury have said that all depositors of Silicon Valley Bank will be fully protected.
It takes the tide to go out to discover who has been swimming naked—and on March 10th an especially large skinny-dipper was caught in the buff. Silicon Valley Bank (svb), America’s 16th-biggest lender, was taken into receivership by regulators after a failed attempt to raise capital and a run on its deposits. As officials frantically try to contain the distress, panicked investors are on the lookout for more bare flesh.
When a bank collapses, worries usually begin with other financial institutions, which can end up exposed either because of connections to the collapsed institution, because they employ similar business models or simply because investor sentiment sours. In a panic, even smaller banks with robust businesses may lose depositors to larger, more closely regulated competitors. svb’s failure to raise capital or sell itself to a larger outfit led to a slump in regional bank stocks, which dropped by nearly a fifth last week. The share price of First Republic Bank, another San Francisco-based lender, tumbled by 34% over the same period.
With just over $200bn in assets at the end of 2022, svb falls well short of institutions like Bank of America or Morgan Stanley, which are known as globally systemically important banks and hold assets worth trillions of dollars. svb also had one of the highest proportions of corporate deposits among American banks, which are more flighty than retail ones, and a lot of loans and bonds relative to deposits. The rapid climb in interest rates thus hit the bank hard. Michael Cembalest of JPMorgan Asset Management has noted that svb was in a “world of its own” in terms of duration risk—the threat rising rates posed to its portfolio.
Signs of broader distress in the American financial system were limited when markets closed on March 10th. Credit-default swaps on the debt of regional lenders are uncommon or illiquid; those of major institutions were subdued. Five-year swaps on debt issued by Morgan Stanley ticked up from 78 to 96 basis points last week, with higher values meaning a higher cost to insure against default. But the same instruments reached highs of 139 as recently as October, and 1,300 basis points during the worst of the global financial crisis of 2007-09.
A second avenue for distress is found among the bank’s corporate depositors. Fully 93% of the bank’s deposits are not covered by federal insurance, which only applies to those below $250,000. Immediate losses will be concentrated in tech firms. svb specialised in lending to asset- and income-light startups. Despite its modest size relative to America’s megabanks, svb boasted that it worked with almost half of American venture-backed tech and life-science firms last year. So long as deposits remain unavailable, urgent outlays like debt repayments and payroll are in jeopardy.
A hit to the sector might mean a period of fretful and risk-averse behaviour from tech firms and investors. Roku, a streaming-hardware company, reported that it held $487m at the bank in a regulatory filing on March 10th. Nor are svb’s activities as geographically focused as its name suggests. The make-up of the company’s international depositor base has not been disclosed, but it has a presence in Britain, China, Germany and India, among other countries. On March 10th the Bank of England sought to put the bank’s British arm into an insolvency procedure.
Spillovers are already apparent in cryptocurrency markets. The price of usdc, a stablecoin which is meant to be pegged to the value of the dollar, fell to as low as $0.88 on March 11th. Circle, the payments firm which manages usdc, confirmed that around $3.3bn of its $40bn in reserves were deposited with svb. As investors fled usdc, they piled into Tether, another stablecoin pegged to the dollar, which rose to $1.03.
The final avenue for distress concerns the assets a failed institution holds. Selling complex structured products into suddenly illiquid markets can cause prices to tumble, weakening the balance-sheets of other financial institutions. That is less likely to be true in svb’s case, since more than 60% of the company’s reported assets are in American government bonds, or cash—both extremely liquid markets. Nevertheless, the slump will focus attention on firms and organisations with similar portfolios. These include some very large financial institutions in Asia. Japanese and Taiwanese insurance firms hold hundreds of billions of dollars in foreign bonds.
Three options lie ahead for svb: bail-out, sale or liquidation. Despite panicked demands for help from a handful of Silicon Valley luminaries, the politics of a government rescue look difficult. On March 12th Janet Yellen, America’s treasury secretary, said that officials were concerned about depositors, but that there would be no bail-out for investors and owners. The Dodd-Frank Act, the centrepiece of bank regulation enacted after the global financial crisis, prohibits taxpayer-funded bail-outs for individual firms.
According to media reports, regulators began an auction for SVB on the evening of March 11th, which is expected to conclude, with or without a deal, by the evening of March 12th. When the bank was up and running, there were few institutions that could have bought it. American regulations prohibit mergers that create an entity with more than 10% of America’s deposits, which ruled out as buyers the country’s biggest lenders: Bank of America, JPMorgan and Wells Fargo. But that restriction is no longer prohibitive now that svb is in receivership. A buyer might well find it an attractive prospect to acquire the relationships svb has with all and sundry in Silicon Valley.
A statement by hundreds of venture-capital firms expressing their support for the bank, published on March 11th, may help. A sale would depend on a potential buyer’s degree of comfort with the value of svb’s assets. Valuing losses in its bond portfolio should be easy enough, but svb did manage to make plenty of loans—$74bn-worth as of the end of 2022. svb thinks these are high quality. It is only holding $636m, less than 1%, in reserve for losses. Outsiders might disagree.
Without either a bail-out or sale, a liquidation will go ahead. That process will be made more straightforward by the relative liquidity of svb’s assets, which means depositors may have some percentage of their uninsured funds returned soon, even while their total losses are still unknown. Depending on how the cards fall, the consequences for svb, its customers and counterparties will be a big test of the American regulatory system—perhaps the biggest since the global financial crisis. ■
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