Special Edition: SVB Bank Failure and Why It Matters?

What is Silicon Valley Bank (SVB)?

Silicon Valley Bank (SVB) is a regional, commercial bank with significant exposure to the Silicon Valley startup industry. A significant part of SVB’s business was to provide loans for venture capital (VC) funds and collect deposits from its VC client-base. Since early last year, deposits have declined with the tech downturn and fixed income prices – particularly longer-duration securities where SVB placed a large bet – have fallen with rising interest rates.

More than a year ago, flush with cash deposits from Silicon Valley startups, SVB invested the majority of customer deposits in long-dated bonds – largely Treasury and Mortgage bonds. As interest rates have risen with Fed monetary policy, these investments have experienced significant unrealized losses. Many of these securities are safe, liquid securities and will eventually mature at par value. However, if depositors exit quickly, the bank might be forced to sell securities at huge losses in order to generate liquidity – SVB was quickly faced with this exact scenario.

As depositors made a run on the bank, the bank attempted to issue $1.25 billion of common stock and $500 million of convertible preferred shares in an effort to generate liquidity inflows and meet demand from exiting deposits. SVB failed to find a buyer and took an estimated $1.8 billion loss on its sale of longer-duration securities.[1] It was shortly after that the FDIC qualified the bank failure and seized control.

SVB trading halted after the stock fell more than 60% in the past few days. Investors are spooked and SVB’s failure created a ripple effect on the stock prices for peers in the industry and broader stock market. There is also potential risk to VC portfolio companies which were SVB customers and unable to recoup deposits. More information will certainly come out in the coming days of VC and institutional stakeholders impacted.

Closed by Regulators

SVB has become the largest bank to fail since the 2008 financial crisis. The Federal Deposit Insurance Company (FDIC) showed up to SVB earlier this week, and today, announced that the bank has failed and the FDIC now has control of its nearly $175 billion in customer deposits.

As depositors gathered wind of the troubling balance sheets at SVB, many startups moved quickly to transfer accounts and collect as much of their deposit capital as they could. The FDIC created a new bank, the National Bank of Santa Clara, to hold the $175 billion of remaining deposits. The FDIC covers accounts up to $250,000 – any accounts beneath these maximums will receive checks next week through this newly created FDIC bank. Accounts above that $250,000 threshold will receive certificates for their uninsured funds, putting them among the first in line to be paid back – though these accounts may only receive partial payback.[2]

We forecast a range of possible outcomes for SVB over the weekend – 1) the FDIC may impose a fire sale of SVB securities, 2) there may be a government bailout to support the silicon valley tech industry and save SVB, 3) the FDIC may fully liquidate assets and positions held by SVB in effort to return money to customers, or 4) SVB finds a strategic investor for acquisition.

Broader Implications and Industry Comments

While investors are spooked, noted by broader stock selloffs, a number of SVB rival banks are benefitting as startups seek new banks to place their deposits. Backers are advising their portfolio companies to maintain deposits in two bank accounts going forward – large institutions like JPMorgan Chase or Bank of America, and another with a startup-focused bank like First Republic.[3]

We believe that SVB’s exposure within Silicon Valley and startup-focused client-base puts it at idiosyncratic risk to the rest of the banking industry. SVB does have a number of regional peers that are concentrated to commercial startups and are likely seeing pressure on deposits and unrealized loss on investments, but the major U.S. banks are protected from this niche environment with their diverse and healthy balance sheets.

Nonetheless, this is a classic bank run and highlights how, “it’s never a problem, until it becomes a problem.” Without depositors fleeing for the exit, or if SVB managed to generate better inflows over the past year by diversifying their customer-base or revenue streams, their paper losses may have never turned into a liquidity challenge. After the Great Financial Crisis, banking institutions have maintained much stricter balance sheet requirements – noted by the past year of rising reserves – but SVB highlights that there will always be risk, particularly within new banks with non-diversified revenue streams. Overall, we maintain that the broader banking industry is healthy, and this might actually highlight the benefits of strong, diversified financial institutions.

Sources

1. CNBC. As of March 10, 2023.
2. The New York Times. As of March 10, 2023.
3. Bloomberg. As of March 10, 2023.

Disclosure

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