As you may infer from the name, Silicon Valley Bank (SVB) is a bank that serves many tech startups and venture capital firms. This is a unique banking niche which is a highly relevant fact that speaks to its unexpected and rapid demise. Let’s rewind for a moment.

According to the Wall Street Journal, “SVB ended the first quarter of 2020 with just over $60 billion in total deposits. That skyrocketed to just shy of $200 billion by the end of the first quarter of 2022.”

To be clear, this is not normal bank growth. This tripling of deposits was a direct result of COVID-inspired 0% interest rates that encouraged venture capital firms to spread hundreds of billions of dollars across countless profitless tech startups of which, SVB was a significant beneficiary at the time.

With those fresh deposits on hand, SVB purchased billions of dollars of “safe assets” such as U.S. Treasury’s. At first glance, this isn’t a problem since Treasury’s are widely considered the most secure assets on the planet given that they are backed by the full faith and credit of the United States government.

But, as the easy-money mania ended and profitless tech began burning their cash on hand to fund operations, SVB experienced significant withdrawal requests causing deposits to fall.

To honor these withdrawal requests, the bank needed to sell some of the Treasury’s on their books. The problem is that the Treasury’s they owned were at significantly lower rates than current rates due to the Fed’s aggressive rate-hiking policy that occurred in the interim. Given this disparity, the bank was forced to sell its Treasury’s at a significant loss.

To make up for this loss, the bank announced plans to raise funds by selling additional shares to shore up its balance sheet. When this share sale was announced, the stock price collapsed thwarting their ability to raise the necessary funds.

With the viability of the bank now in question, venture capital firms encouraged their clients to withdraw their money thereby perpetuating the crisis.

According to California’s bank regulator (and Mark Rubinstein), this “bank run” resulted in withdrawal requests of $42 billion on a single day which was equivalent to a quarter of its overall deposit base effectively capsizing the bank itself.

We share this story to explain the uniqueness of SVB. The nature of the bank’s clientele obviously exposed it to the wild boom and bust cycle that has defined the tech industry. The problem is that this recent bust cycle occurred simultaneously with—or perhaps because of—the Fed’s aggressive rate-hiking policy causing a catastrophic end to the bank.

Regardless of SVB’s unique nature, a bank collapse of this size (it was estimated to be the 16th largest bank in the U.S.) could cause a significant flare-up in consumer anxiety and encourage bank runs on more traditional and stable banks which would unnecessarily perpetuate the problem across the entire industry.

It’s why it’s important that as unique as the situation with SVB is, the FDIC agreed to step in to guarantee ALL bank deposits (including deposits above the insurance limit) at SVB (and Signature Bank as well.)

Many will call this a bailout, but it is not. All banks pay premiums to the FDIC insurance fund and this fund is what is being used to guarantee these deposits. This emergency use of FDIC funds may result in additional future premiums paid by member banks.

But this is a small price for banks to pay if it immediately restores consumer faith and calms everybody’s worst fears that this must be the beginning of the end as it appears to have done.

As for implications, this event may set a near-term precedent for how the government will respond to any additional bank failures. The Biden Administration has already said as much and this is a good thing. It will also likely lead to additional bank regulations over time.

I’d also expect that SVB’s failure might impact the near-term direction of interest rates. Given that this collapse was at least partially caused by the rapid increase in rates, we are left to wonder how The Federal Reserve will respond given the anxiety we’re now seeing.

As recently as a few weeks ago, predictions were for an additional 0.5% increase. Now, not so much. Who knows, but it’s obvious that we’re finally seeing the slow down that the Fed was hoping to inflict on the economy. Things happen fast.

The expediency of this collapse also illustrates the perils of short-term market forecasting that we regularly discuss. As recently as last week, most people had never even heard the name of the 16th largest bank in the U.S., and today it’s all anyone can talk about. But when something like this happens, it impacts investor psychology at a deep level and can move markets more than we could ever predict, rendering all forecasts immediately moot.

Long story short, it’s impossible to know what the immediate future holds, but this is a relatively unique situation and we trust that all will be okay. If you have further questions or concerns about what’s going on, please be encouraged to reach out at any time.