What does the collapse of Silicon Valley Bank mean for the financial system?

SVB’s share price dropped by 60% after the capital increase was revealed. Its chief executive, Greg Baker, urged customers to “support us as we’ve supported you”. Unhappy, some venture capitalists asked to run the portfolio companies. Bill Ackman, a hedge-fund manager, suggested that the government should bail out the bank. Its shares fell a further 70% or more in pre-market trading on the morning of 10 March, before a halt was called. CNBC, a television network, reported that SVB’s efforts to raise capital had failed and that the bank was trying to sell itself to a larger institution. Then came the announcement from the regulators.

These incidents raise two questions. The first is how svb got into this position. The second is whether its troubles are merely an anomaly, or a harbinger of doom for financial institutions at large.

Start already. svb is a bank for startups. It opened accounts for them, often before large lenders would have bothered. It also gave them loans, which other banks are reluctant to do because few startups have assets for collateral. As Silicon Valley has boomed in the past five years, so has SVB. Its customers were flush with cash. He needed to deposit more money than he could borrow.

Thus svb’s deposits more than quadrupled—from $44bn at the end of 2017 to $189bn at the end of 2021—while its loan book grew from just $23bn to $66bn. Since banks make money on the spread between the interest rate (often nothing) paid on deposits and the rate borrowers pay, having a deposit base much larger than the loan book is a problem. SVB needs to acquire other interest-bearing properties. By the end of 2021, the bank had invested $128 billion, mostly in mortgage bonds and Treasuries.

Then the world has changed, As inflation increased, interest rates increased. This wiped out the bonanza in venture capital and caused bond prices to collapse, leaving SVB uniquely exposed. Its deposits swelled when interest rates fell, and its customers were flooded with cash. Since the bank had invested during this time, it bought the bonds at their highest prices. As venture-capital fundraising halted, svb’s clients reduced their deposits: they fell from $189bn at the end of 2021 to $173bn at the end of 2022. svb was forced to sell its entire liquid bond portfolio for less than it was paid. Losses on these sales, some $1.8bn, left a hole that it sought to fill with capital raising. When it came under the bank held some $91 billion in investments, which were valued at their cost at the end of last year.

Was the SVB Trouble an Anomaly? It appears that the bank is uniquely susceptible to a run. Federal insurance, implemented after a series of panics that toppled the American economy in the 1930s, covers deposits of up to $250,000. It protects all the cash that most individuals would store in a bank account. But it is unlikely to cover the funds held by the company. svb is not only a bank for companies but a small subdivision of them that has faced the toughest of times. Some 93% of its deposits were not insured. Its customers, unlike those of most banks, had a real incentive to run—and they responded.

That said, almost all banks are sitting on unrealized losses in their bond portfolios. If SVB is the bank most likely to be in a position to stock up on bonds at their peak prices, it’s probably not the only one to struggle with the price jump. Treasury Secretary Janet Yellen says she is monitoring several banks in light of events in Silicon Valley. Thankfully, loan books make up a large portion of assets at most other institutions. And with rates rising, they’re earning more.

The question now is whether there will be a bail-out and, if so, how big it will need to be to make depositors whole. Ro Khanna, a Congressman from California’s 17th district, which includes some of the Valley, says “SVB” is the lifeblood of the tech ecosystem. “They can’t let the bank fail. …or get help or even a statement from the Treasury Department so depositors feel safe—I’ll leave that to the experts.”

Interference would be unpopular. But this may be the only option due to a lack of depositors, as SVB apparently was not holding enough to cover losses, forcing it to take assets. Former Treasury Secretary Larry Summers has said that as long as the state intervenes, there is no reason to worry that the SVB will harm other parts of the financial system. A lot of people will be hoping that it does, and they’re right.

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