How Silicone Valley Bank Collapsed
This is how a bank dies
One of the big US banks has collapsed as they were forced to sell investments to try pay back clients the money they had deposited. Efforts failed and the bank has failed sending shockwaves across the banking industry and markets.
Silicone Valley Bank
Silicon Valley Bank (SVB), is a specialized bank based in California (USA) and had a realy good niche client base primarily serving the smart and inovative people in the technology and innovation sectors.
The bank was founded back in 1983 and has over the years grown to become one of the leading financial institutions for startups, venture capitalists, and emerging growth companies.
SVB offered all the usual range of financial products and services, like loans, lines of credit and foreign exchange. The bank also established a number of strategic partnerships with venture capital firms, accelerators, and incubators to support the growth of their particular clients. Basically, if you had an App or new IT idea and needed money, you went to SVB.
‘if you had an App or new IT idea and needed money, you went to SVB’
Silicon Valley Bank was recently hit hard by the downturn in technology stocks over the past year (along with all the crypto issues since FTX) as well as the US Federal Reserve’s aggressive plan to increase interest rates to combat inflation.
What had happened is that the bank bought billions of dollars worth of bonds over the past couple of years, using customers’ deposits. Nothing unusual there, it is what banks normally do. These investments are typically safe, but due to the crypto chaos and changes to interest rates the value of those investments fell. These investments ended up paying lower interest rates than what a comparable bond would pay if issued now. Oops.
As a result, Silicon Valley Bank’s customers, largely startups and other tech-centric companies, started getting nervous and began withdrawing their deposits. This started a small domino falling.
‘The withdrawals meant that to provide the clients with their money the bank had to start selling its own assets’
The withdrawals meant that to provide the clients with their money the bank had to start selling its own assets to meet customer withdrawal requests. The problem was that they had to sell those for a bit of a loss. Which made people even more nervous.
Now, SVB clients are generally quite savvy when it comes to finances and they know what a run on the bank can mean.
A Run on the Bank
A “run on the bank” is when many customers of a bank rush to withdraw their money at the same time, usually because they are worried the bank might fail or go bankrupt.
This can be caused by rumors, financial instability or negative news about the bank. SA had a taste of such issues in the past with Saambou and African Bank (who got hit hard by share price collapse).
A run on the bank can be dangerous because if too many customers withdraw their money, the bank might not have enough cash to give everyone. This is because banks normaly use consumers money to invest and do not have to have the amount of money they lend out.
Because some investors were pulling out their funds, other people began to worry that there may be a run on the bank and they too decided to pull their deposits as well.
Customers pulled $42 billion from the bank on Thursday, leaving the bank with -$1 billion in negative cash balance
This meant the bank had to try get more money or sell off more investments at a further loss to try give those clients their money. The bank tried to raise additional capital by bringing on outside investors but was unable to find them. Once people found out about that, it was chaos and the feared run on the bank was in full effect. The donimos were tumbling at high speed and things were totally out of control. The bank was doomed.
And that is how SVB became the largest bank failure since the 2008 financial crisis.
Government Now Having to Try Save the Day
Around the world other banks lost share value as investors reacted in an initial panic. Things have since calmed down a little as the US Government and local California authorities were forced to step in.
First the California banking regulators closed the bank and then appointed the Federal Deposit Insurance Corporation (FDIC) as a receiver for later disposition of its assets. Next the Federal Government got involved.
The good news for the banks clients is that due to the Federal Government stepping in, all insured depositors will have full access to their insured deposits but the concern has been that 89% of the bank’s $175 billion in deposits were uninsured, and their fate has been a bit up in the air.
Now it looks like the US Government is making plans to assist there. At the same time they are saying the do not want to force taxpayers to cover yet another “bailout” of a big bank like back in 2008.
Still, the US President went public and guaranteed that customers of the failed bank will have access to all their money and should not panic.
Please remain calm...please
In among all the recent financial turmoil caused by this disaster another ‘smaller’ US bank called Signature Bank, who were already teetering on the brink of collapse, also had to be shut down, with its customers now receiving a similar deal.
This immediately made even more people nervous. So, it is no wonder the US Government has gone public with promises they will sort out “this mess”.
Its as if the Government is begging: Please Remain Calm!
US Regulators and politicians spent a rather busy weekend scrambling to put in place new legislation and promised measures to try help calm the markets and prevent further runs on the banks. It remains to be seen if this will effectively calm the markets.
By Minh Nguyen – Own work, CC BY-SA 4.0, https://commons.wikimedia.org/w/index.php?curid=129577579