How did Silicon Valley Bank collapse? What is the impact?

Silicon Valley Bank

Introducing Silicon Valley Bank

The main body of Silicon Valley Financial Group (ticker: SIVB) is Silicon Valley Bank, which is also the largest bank in the Silicon Valley area. It is a financial group that mainly focuses on providing loans to technology companies, financing technology and biotechnology venture capital, providing various services to private equity companies, and providing private banking services to high-net-worth individuals in its domestic market.

About half of the technology start-ups in the United States, and 80% of the start-up companies supported by venture capitalists, have cooperation or business dealings with it, and it is the 16th largest bank in the United States by assets. The huge cash deposits absorbed by thousands of companies will surge by 65% in 2020, by as much as 85% in 2021, and reach a peak of US$198 billion in early 2022.

Why did it suddenly close down?

The root cause for closure

Because of the 13-year bull market, the central bank’s quantitative easing, and the ease of obtaining low-cost funds, its deposits increased too much and too fast, and it was unable to seek more prudent risk control measures on the asset side. Most of the new deposits were put into safer bonds, but I didn’t expect that the assets would immediately depreciate due to the series of interest rate hikes by the Federal Reserve due to global inflation. In order to increase liquidity, they had to sell bonds to seek short-term funds to meet the necessary capital flow needs, resulting in an immediate loss of assets, resulting in a run on deposits from depositors.

Mistakes made

In short, the Bank of Silicon Valley made a primary-school-level mistake in the banking industry: borrow short and invest long. By the end of 2022, JPMorgan Chase’s total assets will be US$3.2 trillion, and Bank of Silicon Valley will have US$216 billion, accounting for only 1% of the assets of all US banks. It stands to reason that it should not infect the entire banking system. But its long-term investment assets are too large, 37% more than JPMorgan Chase; assets are obviously illiquid.

Increased returns by buying long-term bonds, especially mortgage-backed bonds (MBS), because these bonds generate higher yields during periods of low interest rates. The company sits on a massive $125 billion portfolio of securities, most of which are long-term mortgage bonds. By the end of 2021, the average duration of its investment portfolio is 4 years (2.5 years in 2016), and the return on shareholders’ equity (ROE) has dropped to 17%. But why would management do this? Because the performance bonus of the chief executive and chief financial officer is directly linked to the company’s ROE. In order to achieve the goal of ROE, there is no choice but to allocate funds to assets with longer maturities and higher yields.

Detailed cause description

In 2022, Bank of Silicon Valley’s long-term investment assets will reach 57.3%; among them, available-for-sale securities (AFS) account for 13.3%, and held-to-maturity investment debt securities (HTM) account for 44%. In the three years back in 2022, AFS increased by US$10 billion and HTM increased by US$85 billion, for a total increase of US$95 billion. The balance of deposits increased by US$110 billion, and the average loan balance doubled from US$37.3 billion to US$70 billion during this period; 70% of its loans were given to general partners in the venture capital industry to meet the needs of follow-up investment funding requirements (56%) or bank loans for high-tech employees’ real estate collateral (14%).

And HTM investment increased from 13 billion to 95.4 billion, more than 7 times. JPMorgan Chase (ticker: JPM) cash, cash-like and short-term investments accounted for 36% (1.166 trillion US dollars) in 2022, Silicon Valley Bank only 7% (13.8 billion US dollars), and the withdrawal demand for one day on March 9 That’s 42 billion US dollars, of course it can’t handle it.

By the end of 2022, the interest-bearing deposits will be 92.4 billion, and the non-interest-bearing deposits will be 80.7 billion, accounting for nearly 50%. The high proportion of non-interest-bearing deposits is due to the large number of corporate accounts. It is a time deposit. This means that nearly 50% of the deposits have no contribution at all, and are only for customer relationship and business scale. During the same period, JPMorgan had only 28% of deposits that did not bear interest.

Comparison between Silicon Valley Bank and JPMorgan Chase

 Silicon Valley BankJPMorgan Chase
Market value (3/17/2023)6.28 billion384.256 billion
Share price (3/17/2023)106.04125.81
P/E ratio (3/17/2023)4.1810.8
Stock performance from all-time high-86.11%-27.26%
Ranking in U.S. banks16th largestThe largest
Total asset (12/31/2022)216 billion3.2 trillion
Cash, cash equivalents and short-term investments13.8 billion (7% of total asset)1.166 trillion (36% of total asset)
Proportion of non-interest-bearing deposits50%28%
Proportion of long-term investment assets57.30%41.82%

Table 1: Comparison between Silicon Valley Bank and JPMorgan Chase (data from Yahoo Finance and the 2022 annual financial reports of the two companies)

A look back before the collapse

In order to obtain short-term funds and increase liquidity, Silicon Valley Bank was forced to sell AFS on March 8, losing 1.8 billion U.S. dollars and raising 2.25 billion U.S. dollars, which led to the stock price crash and the next day’s run. As panic spread on social media such as Twitter, WhatsApp, and Slack, the run broke out rapidly. In the day before the collapse on March 9 alone, depositors and investors withdrew a total of 42 billion U.S. dollars, accounting for almost half of current accounts. On March 9, the stock price plummeted 60% in the day’s trading, and then plummeted 22% after the market closed.

In 2022 alone, the public market value will shrink by 2/3. The company’s stock price once reached the highest price in history of 763.22 in late October 2012, which is a drop of 86.11% from 106.04 when the stock was delisted on March 17, 2023. The stock prices of listed companies that have business dealings with it have also been affected to a considerable extent after the announcement of capital risks; for example, ROKU (ticker: ROKU) has as much as 26% of 487 million US dollars in cash deposited in Silicon Valley Bank, and the stock price immediately after the news was revealed. It tumbled 3.6 percent.

The impact of this collapse

Domino effect

On March 10, 2023, it declared bankruptcy due to insolvency, and was suspended and taken over by the Federal Deposit Insurance Corporation (FDIC). It is the largest bank failure in the United States since Washington Mutual collapsed during the 2008 financial crisis.

Then Signature Bank (ticker: SBNY) also became the third largest bank failure in the history of the United States on March 12, 2023, and Silvergate Bank (ticker: SI) was closed and liquidated on March 10.

Including Charles Schwab (ticker: SCHW), First Republic Bank (ticker: FRC), Westpac Bank (ticker: PACW), Union Credit Bank (ticker: CMA), Lincoln National (ticker: LNC), have been rumored to be closed down or have insufficient capital flow; it has triggered a frantic run on by depositors, and the stock price has collapsed for several days, leading to a sharp decline in financial stocks and the U.S. stock market; KBWB Bank ETF, which represents the stock prices of major U.S. banks The index fell 21.76% within 4 trading days. , It also caused the value of the global financial stock market to evaporate 465 billion U.S. dollars in three days.

In the week that Silicon Valley Bank and Iconic Bank collapsed, customers withdrew nearly $98.4 billion in bank deposits, accounting for about 0.6% of total deposits. The U.S. Department of the Treasury was forced to announce that depositors’ deposits could be guaranteed by the FDIC, which stopped the turmoil in the U.S. financial world for more than a week, and the public’s worries about triggering a similar financial crisis in 2008. It is even more reminiscent of the collapse of the Bank of United States, the 28th largest bank in the United States in December 1930, which caused a crisis of public confidence in the U.S. banking system, and made people recall the history of Great Depression.

Share price of related companies in 4 trading days

KBWB Bank ETF-21.76%
S&P 500 index-3.41%

Table 2: Stock price performance of related companies from March 8 to March 13 (relevant figures come from Google Finance)

Startups suffer

Its collapse could be an immediate catastrophe for tech and biotech start-ups, and since more than 95% of deposits at Silicon Valley Bank are uninsured, it would hit start-ups whose deposits have been frozen. As the U.S. financial regulators force the sale of Silicon Valley Bank assets, the funds of start-ups may be frozen indefinitely, unable to honor daily necessary operating expenses such as paying employee salaries, causing start-ups to close their doors. Its bankruptcy comes at a time when the tech industry is facing a sluggish winter, with rising interest rates reducing access to cheap money.

According to data released by CB Insights in January 2023, the amount of venture capital investment in the United States in 2022 will drop by 37% compared with the previous year. In the first half of 2021, when the venture capital market was at its peak, the amount of financing reached 180 billion U.S. dollars (the full year of 2021 was 330 billion U.S. dollars). A large portion of this apparently went to Silicon Valley Bank. The deposit balance of Silicon Valley Bank has increased by 87 billion US dollars in 2021, and it has almost quadrupled in just three years!

Lessons learned

VC financing and FED’s monetary policy are linked

The previous peak of the financing data of the venture capital market was 100 billion US dollars in 2020, and it plummeted after the Internet bubble. From 2003 to 2007, it slowly rose to the funding level of 20 billion to 25 billion; after 2010 to 2011, this number suddenly increased significantly. And the surge in venture capital financing data coincides perfectly with the Fed’s QE cycle!

How investors can protect themselves

For investors, the current ratio can be used to test the companies you invest in. This indicator is used to assess whether a company has sufficient assets to repay its debts in the short term. The average for S&P 500 companies is 1.2 times, the average for S&P technology companies is 1.6 times, and the average for the Philadelphia Semiconductor Index is 2.4 times. If a current ratio of more than 1.5 times is used as a healthy indicator, it can be found that the liquidity of the technology industry, especially the upstream and cutting-edge enterprises, is much better than the industry average.

The fate of Silicon Valley Bank

: On March 27, 2023, First Citizens Bank (ticker: FCNCA) will purchase deposits and loans from Silicon Valley Bank, including the purchase of approximately US$72 billion of Silicon Valley Bank assets at a discount of US$16.5 billion; billions of dollars in securities and assets will continue to be taken over by the FDIC.

On March 29, 2023, the first day of resumption of trading of Silicon Valley Bank’s stock, the stock price fell by -99.82% from the price at which trading was suspended.

I am the author of the original text, and the condensed version of this article was originally published in Smart magazine.

Silicon Valley Bank

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