In light of recent news events, we wanted to spend some time sharing information and perspective around the current banking situation. However, before we can begin to understand the current headlines, let’s first understand what a bank actually is…
What is a bank and how does it make money?
Banks are companies that take in cash deposits from individuals and businesses and store that cash. To make money, banks will then lend that money out in a variety of ways. Banks may make home loans, auto loans, personal loans, offer credit to businesses, and much more. Banks will also invest in different securities like treasuries and corporate bonds. They collect the interest they receive on the loans they make and pay their depositors some interest. Banks keep the difference, called a spread, as their profit.
What happened with Silicon Valley Bank (SIVB)?
Silicon Valley Bank has been around for about 40 years. Silicon Valley Bank had a niche as a regional bank serving many individuals, businesses, and other groups in Silicon Valley, specifically, the venture capital community. Over the past few years, Silicon Valley Bank took on large amounts of deposits from the venture capital community. When possible, they made loans, but they also invested a large amount of money into long-dated treasury bonds. In 2022, as the Federal Reserve raised interest rates rapidly, values of bonds began to fall. At the same time, funding for the companies they served stalled, and the companies were drawing on their deposits to make payrolls. This led to a perfect storm where Silicon Valley Bank looked to be insolvent on paper.
Was Silicon Valley Bank actually insolvent?
No. Silicon Valley Bank was actually not insolvent, it had a liquidity problem. The bank had invested in these long-dated treasuries that would have matured, but they would mature years into the future and they needed cash now. They attempted to do a capital raise to increase their liquidity and cash levels, but unfortunately, their depositors panicked and withdrew about $40billion in 48 hours. There were reports of nearly the same amount attempting to be withdrawn but had been stopped when the regulators took control of the bank. Had the bank run not occurred, it’s possible Silicon Valley Bank would still be operating today.
How is the situation resolving?
After regulators took control of the bank, they eventually guaranteed the deposits of all depositors, even the ones above the $250,000 limit. Additionally, regulators are attempting a sale of the bank in whole or part to other financial institutions. This situation seems to be isolated at the moment, but there are reports of a few other banks being offsides as well. Those banks are taking steps to right themselves, including a potential sale of the bank. Finally, the Federal Reserve put in a new program where banks can receive a loan from the Federal Reserve based on the face value (par value) of their holdings, even if the market value of the funds are lower. This is an effort to keep banks liquid. Had the FDIC not insured deposits and put these measures in place, this could have been a more complicated problem. At the moment, this situation seems isolated and stabilizing.
This situation is evolving in real-time, and the facts can change. If facts change, we will keep you notified as to what that may mean for you. As always, if you have any questions, don’t hesitate to reach out to your advisor and schedule an update call.