The banking sector is currently facing an emerging crisis, with Silicon Valley Bank experiencing a significant decline in its share price. This blog will discuss the factors contributing to this situation and the potential implications for the banking industry as a whole.
The Decline of Silicon Valley Bank On Thursday, March 9th, Silicon Valley Bank’s stock closed down by 60%, followed by an additional 28% after hours, resulting in a 24-hour decline of more than 70%. The bank’s CEO has been reassuring clients about the conservation of capital, but concerns are growing due to the recommendation of the key VC player, Founders Fund, that its own portfolio companies withdraw their funds from Silicon Valley Bank.
The Potential for a Bank Run If all of Silicon Valley Bank’s clients attempt to withdraw their money simultaneously, there is a serious possibility of a run on the bank. This could drive the bank into liquidation, as it does not have enough available cash to make all of the payments. The bank’s capital is tied up in longer-term assets, and a significant withdrawal of funds could result in a liquidity crisis.
The Implications for the Banking Industry The situation with Silicon Valley Bank is not an isolated incident, as Silvergate Capital recently announced its liquidation following the withdrawal of more than 50% of its deposits and the incurring of losses of more than $1 billion in Q4 2022. The banking industry relies on trust, and if this trust is lost, it could result in a classic bank run. In such cases, it is best not to be the last person to withdraw funds.
Silicon Valley Bank and Silvergate Capital: The Emergence of a Potential Bank Run and Liquidity Crisis
The recent events at Silicon Valley Bank and Silvergate Capital have caused quite a stir in the banking industry. Silicon Valley Bank, founded in 1983, has been a key player in the US venture capital market for almost 40 years. However, the bank recently faced a 60% decline in its share price on March 9th. To add to this, one of the leading players in the world of venture capital has advised all of his clients to withdraw their money from the bank. This has raised concerns about a potential bank run and liquidity crisis.
In this blog post, we will explore the history of Silicon Valley Bank, the recent events that have led to the current situation, and whether this could be the start of a new global financial crisis.
History of Silicon Valley Bank
Silicon Valley Bank was founded in 1983 by Bill Biggerstaff and Robert Medeiros. The bank was created to service the growing venture capital market in the USA and provide a specialist financial institution to hold all of the large deposits that small companies were receiving from venture capital investments.
The concept was well received amongst the venture capital community, and in 1988, the company completed an IPO onto NASDAQ and raised six million dollars. The business expanded across the whole of the USA in the 1990s and in 2001 acquired Palo Alto Investment Banking firm Alliant partners for a hundred million dollars. In 2002, the bank expanded its private banking business and opened its first international branches in London and Bangalore. It went on to open offices in Beijing and Israel.
As of December 2022, Silicon Valley Bank employed more than 8,500 people, had offices in 11 countries worldwide, issued $74 billion worth of loans, held $212 billion worth of assets, and was holding $342 billion of client funds.
Recent Events
On March 9th, Silicon Valley Bank experienced a 60% fall in its share price. The bank’s CEO has been trying to reassure clients about what the stock drop means, and the conservation of its capital at the moment. However, one of the leading players in the world of venture capital, Founders Fund, has advised all of its companies to withdraw funds from Silicon Valley Bank. This has raised concerns about a potential bank run if all of the clients of Silicon Valley Bank try to withdraw their money simultaneously. The bank simply doesn’t have enough available cash to make all of those payments as most of its capital is tied up in longer-term assets.
Silicon Valley Bank is not the only bank facing a liquidity crisis. Silvergate Capital, another US-based bank, announced that it was going into liquidation following the withdrawal of more than 50% of all of the deposits that it was holding and the incurring of losses of more than $1 billion in quarter 4 of 2022.
Is this the start of a new global financial crisis? The events at Silicon Valley Bank and Silvergate Capital have raised concerns about a potential bank run and liquidity crisis. However, it is important to note that these events may be specific to these two individual banks and not indicative of a larger issue. It is also possible that this could be the start of a new global financial crisis, with the dominoes beginning to fall. Only time will tell.
Understanding the Challenges Facing Silicon Valley Bank
Silicon Valley Bank is a prominent banking institution that has gained immense success as the preferred banking partner for early-stage businesses. With over 50% of all venture-backed companies in the US and a global banking portfolio of around 56% being venture or private equity funds, it is clear that the bank has a considerable client base. Most of these early-stage companies do not have debt facilities and, therefore, receive investment in the form of equity from venture capital firms. These companies tend to be cash-rich and hold cash on their balance sheets to fund their operations, including investing in research and development and technology.
One of the strengths of Silicon Valley Bank’s financial profile is the abundance of client funds, including on-balance sheet deposits and off-balance sheet clients’ investment funds. However, having too much cash can also be a problem for banks, as they need to make a return on that capital. They need to earn more than they are paying their clients in deposit interest. The bank faced a significant challenge in 2021 when it experienced a massive influx of deposits, which increased from around $62 billion at the end of 2019 to $189 billion at the end of 2021, an increase of almost $130 billion in just two years.
The Traditional Way of Making Money from Customer Deposits
Banks make money from customer deposits by lending that money to other companies and charging them a higher rate of interest than they are paying on the deposit interest. However, Silicon Valley Bank had two problems regarding this issue. Firstly, most of its customers were not eligible for loans because they were early-stage companies that were not making a profit and, therefore, being funded by equity, not debt. Secondly, the massive influx of cash deposits meant that it was impossible to lend anywhere near that amount.
Challenges in Making a Return on Capital
In an attempt to make a return on this capital, Silicon Valley Bank turned to the capital markets. Unfortunately, the period that it received all this additional cash coincided with the COVID-19 pandemic. During the pandemic, interest rates dropped to their lowest levels in history to keep the economy ticking over. This made it quite challenging to earn a meaningful yield, as short-term interest rates were very low.
Silicon Valley Bank then looked to the longer-term markets and purchased over $80 billion worth of mortgage-backed securities. This portfolio of bonds had a weighted average yield of 1.56%, and the average term of these bonds was over ten years. The plan with this type of investment is to hold these assets until maturity. However, inflation caused problems in most economies worldwide, and central banks started to increase interest rates to counter inflation. In the USA, interest rates increased from 0.25 to 4.75%, which is a massive increase in a short period.
The Inverse Relationship between Interest Rates and Bond Prices
The increase in interest rates caused a significant problem for Silicon Valley Bank because interest rates have an inverse relationship with the price of bonds. When a bond is issued, the interest rate on that bond is fixed and appropriate to the current market conditions. For example, if we look at the portfolio that Silicon Valley Bank has invested in, the bank purchased mortgage-backed securities that have an average yield of 1.56%. For every $100 bond that the bank is holding, it will be paid $1.56 in interest every year.
For example, if a bond is issued with an interest rate of 1.56%, and the current interest rate in the market is 4.75%, then the price of the bond will adjust to reflect this difference. To achieve a yield of 1.56% on a bond in the current market, one would only need to buy around $32 worth of bonds.
Silicon Valley Bank has invested over $80 billion of their customers’ money into long-term bonds that have a yield of 1.56%. However, the current interest rate in the market is 3.9%, significantly higher than the yield on the bank’s bonds. This means that the value of those bonds has declined, causing losses for the bank.
Moreover, due to a large number of customers requesting their money to be returned, the bank was forced to sell some of its bonds, incurring significant losses. The bank announced that it has sold $21 billion of its available-for-sale securities at a loss of $1.8 billion. As a result of this, the bank needs to raise $2.25 billion in equity and debt.
The bond price and yield relationship has a significant impact on Silicon Valley Bank’s investments in long-term bonds. The current situation of declining bond prices and higher interest rates in the market has caused losses for the bank. The bank’s need to raise additional funds has come as a surprise to investors who believed that the bank had enough liquidity to avoid selling its securities.
So what does this mean for Silicon Valley Bank and its customers?
- It means that the bank is facing a significant financial challenge. If it needs to sell its bond portfolio before maturity, it will likely have to accept a significant loss. This loss would impact the bank’s financial position, and could potentially lead to liquidity issues if a large number of customers start withdrawing their deposits. This would be a serious concern for early-stage businesses that rely on the bank for their banking needs.
- It could also impact the bank’s ability to continue serving its existing customers and attracting new ones. Early-stage businesses choose Silicon Valley Bank because it understands their unique needs and has a reputation for being a reliable partner. If the bank faces financial difficulties, it may be forced to cut back on its services, which could leave its customers in a difficult position.
However, it’s worth noting that Silicon Valley Bank is not the only bank facing these challenges. Many other banks are also grappling with low-interest rates and inflation concerns. The key for Silicon Valley Bank will be how it manages its bond portfolio and its customer deposits going forward.
So what can businesses do to protect themselves?
- Diversify their banking relationships. While Silicon Valley Bank may be the go-to partner for early-stage businesses, it’s important to have backup options in case of emergencies. This could mean working with other banks or alternative financial institutions to spread out your risk.
- Closely monitor their deposits and their banking partners. While it may be tempting to keep all your cash in one place, it’s important to regularly assess the health of your bank and ensure that your deposits are fully insured. The FDIC provides insurance for up to $250,000 per depositor, per bank, so it’s important to stay within these limits.
The challenges facing Silicon Valley Bank highlight the risks that early-stage businesses face when it comes to banking. While the bank has a long history of serving this community, it’s important for businesses to be aware of the risks and take steps to protect themselves. By diversifying their banking relationships and monitoring their deposits, businesses can help ensure that they have a reliable banking partner for the long term.
How the run on Silvergate Bank’s assets is causing concern in the industry
In recent weeks, news has emerged of a run on the assets of Silvergate Bank, which has caused concern among industry experts. In this blog post, we will explore what led up to this situation, what it means for the bank, and what it could mean for the wider cryptocurrency industry.
Background on Silvergate Bank
Silvergate Bank was founded in 1988 as a traditional bank in California. However, in 2013, the chief executive, Alan Lane, invested in Bitcoin and decided to launch an initiative to start servicing cryptocurrency clients. The bank developed a strong niche, providing corporate services to all of the cryptocurrency businesses and attracting names such as Genesis, Gemini, Coinbase, and Kraken.
Silvergate’s flagship product was called The Silvergate Exchange Network, which allowed all of its cryptocurrency clients to exchange cryptocurrency for US dollars around the clock on a 24/7 basis. Essentially, Silvergate was acting as a real-world bridge between the cryptocurrency clients and the markets. When companies such as Coinbase signed up a new customer who gave them US dollars and wanted to buy Bitcoin, Coinbase would then place those US dollars on deposit with Silvergate so that it had that cash in reserve. When the customers then decided that they wanted to cash in Bitcoin and take back their dollars, Coinbase would go back to Silvergate, ask for the dollars, and then pass those dollars on to the customers.
Silvergate’s rise in value
As the world of cryptocurrency got bigger and more exciting and attracted more investment, Silvergate’s value started to rise. In 2019, Silvergate was listed on the New York Stock Exchange, selling its shares in an initial public offering at $12 each, which valued the business at around $230 million. At one point, the shares were trading for $220 each, which valued the bank at around $4.2 billion.
The run on Silvergate’s assets
Unfortunately, the events in the cryptocurrency markets over the last 12 months have had a detrimental impact on Silvergate’s value and also its viability. Publication of Silvergate’s results for the quarter ending December 2022 revealed that the company had made a net loss of $1 billion in the quarter compared to a profit of $18 million in the previous quarter. This loss was due directly to a run on the company’s assets. In the three months ending December 2022, customers withdrew over $15 billion from Silvergate accounts, which represented more than 50% of its total assets. Silvergate’s interest-bearing deposits decreased by $6.9 billion or 52% to leave the bank with only $6.3 billion in deposits, and non-interest-bearing deposits fell by $8.2 billion to leave only $3.9 billion in the bank, representing a fall of 61%.
Why Silvergate posted such a monumental loss
The reason that Silvergate posted such a monumental loss is that it had been putting all of the cash that had been given by all of its corporate customers into Federal bonds. Rather than just holding the cash, Silvergate wanted to make a return on that capital. However, the problem that Silvergate has encountered is that over the last 12 months, there has been a material increase in interest rates, and when interest rates go up, the price of bonds goes down. So what Silvergate has experienced over the course of the last 12 months is that all of the money that it’s placed into US government bonds has fallen in terms of the current market value. Because all of these customers are now demanding their money back, Silvergate has had to sell these bonds at a loss, which has led to a significant reduction in the bank’s assets.
So, what are the implications of this for Silicon Valley Bank?
It’s hard to say for sure, but there are some potential risks that should be considered.
First, if SVB were to experience a run on its assets similar to what happened with Silvergate, it could cause serious problems for the bank and its customers. Depositors might lose confidence in the bank and start pulling their money out, leading to a downward spiral that could ultimately result in the bank’s failure.
Second, even if SVB is able to weather the current storm, the fact that so many major VC firms are advising their portfolio companies to move their funds elsewhere could have a lasting impact on the bank’s reputation. Investors may become wary of doing business with SVB in the future, which could make it more difficult for the bank to attract new customers and retain existing ones.
Overall, it’s clear that the recent events at Silvergate have sent shockwaves through the world of fintech and venture capital. While it remains to be seen how things will ultimately play out for SVB and other banks in the space, it’s clear that the industry is in for some significant changes in the years to come.
The Potential Risk of Bank Failures in the Financial Sector
Introduction: The failure of banks can have significant implications for the financial sector. Recently, two US-based banks failed within a few days of each other. This occurrence is a warning sign of potential problems in the wider financial sector. This article will discuss the characteristics of these banks and the challenges they face.
Specialist Banks: Both banks discussed in this article, Silicon Valley Bank and Silvergate Bank, are specialist banks. Silicon Valley Bank has cornered the market for early-stage venture capital companies, and Silvergate Bank provides services to corporates working in the cryptocurrency markets.
The Challenge: The banks are faced with a similar dynamic. They have a large amount of cash from their customers, which they use to pay their bills. However, the banks need to invest that cash to make a return on it. Due to interest rates being at their lowest levels in history, finding investments that provide a high yield has been challenging over the last couple of years. In an attempt to find yield, the banks sought out longer-term bond markets.
The Problem: When customers requested their money back, the banks found their capital tied up in these long-term bonds, which had fallen in value due to rapidly rising interest rates over the last 12 months. These banks became victims of their success in attracting deposits, as they had too much cash to invest meaningfully.
The Result: The only way the banks can get their capital back is by cashing in all of their bonds, which are now trading at significant losses. This situation has resulted in the closure of Silvergate Bank, which is now in liquidation, and major question marks over Silicon Valley Bank. The bigger question is, are there other financial institutions around the world in a similar situation?
The Likelihood of Other Banks and Institutions Seeing a Run on Their Assets: As mentioned earlier, the banking and financial sector is based on trust. Trust that your bank will look after your money and give it back when you need it. If everybody decides to remove their money, it can cause a run on that bank. The problem with runs is that they are contagious. All around the world, there are protection schemes in place. However, if you are a corporate with millions on deposit with that bank, the protection scheme will not suffice. This is what happened with Silvergate and Silicon Valley Bank. They were mostly banking corporates, and those corporates became concerned about the lack of liquidity.
Conclusion
In conclusion, the failure of banks can have significant implications for the financial sector. The problems experienced by Silicon Valley Bank and Silvergate Bank highlight potential issues with other financial institutions worldwide. As it stands, the banking and financial sector is based on trust, and if that trust is broken, it can have severe implications. It is essential to monitor this situation and take measures to prevent such issues from spreading.
- The government has 48 hours to fix a mistake to protect depositors of @SVB_Financial.
- Uninsured deposits are an unsecured illiquid claim on a failed bank, and the world has woken up to this.
- If SVB fails without protecting depositors, it will lead to the withdrawal of substantially all uninsured deposits from all but the systemically important banks (SIBs).
- These funds will be transferred to SIBs, US Treasury (UST) money market funds, and short-term UST.
- The increased demand for short-term UST will drive short rates lower complicating the @federalreserve’s efforts to raise rates to slow the economy.
- Thousands of the fastest-growing, most innovative venture-backed companies in the US will begin to fail to make payroll next week.
- The government should have guaranteed SVB’s deposits in exchange for penny warrants, which would have preserved SVB’s 40-year franchise value and transferred it to a new owner in exchange for an equity injection.
- The government’s approach guarantees that more risk will be concentrated in the SIBs at the expense of other banks, creating more systemic risk.
- The @FDICgov and OCC also screwed up by not monitoring our banking system for risk.
- The failure of FDIC and OCC should not be allowed to cause the destruction of thousands of our nation’s highest potential and highest growth businesses.
- Even in liquidation, depositors should eventually get back about 98% of their deposits, but eventually is too long when you have payroll to meet next week.
- The cost of a government guarantee of SVB deposits would be minimal, but the unintended consequences of the government’s failure to guarantee them are vast and profound and need to be considered and addressed before Monday.
