What Happened to the Silicon Valley Bank?

Bar graph showing the impact of unrealized securities losses on capital ratios

What Happened

Last week, two banks collapsed, causing stock markets to retreat. One of the bank closures (SIVB) was the second largest in U.S. history with over $200 billion in assets. The problem stemmed from the banks owning a lot of U.S Treasury bonds (as do most banks). Rising interest rates create an issue for these bonds. Rising interest rates cause the value of the existing bonds with lower payout rates (think 1% bonds until last year) to fall in value because new bonds are being issued with payout rates of 4% to 5%. Under ‘normal circumstances’ this usually isn’t a problem because the banks just hold them until they mature. Problems arise when banks can’t hold the bonds to maturity because customers are withdrawing cash at a high clip. The bank’s customer base (primarily venture capital funds, including tech startups and biotech companies) are seeing greater cash burn and had a need to withdraw more than the bank was in position to provide. Too many depositors demanded cash at once and the banks could not convert loans and securities to cash that quickly. A classic “run-on-the-bank” scenario started to unfold.
Systemic Risk?
The news came as somewhat of a surprise and raised investor worries. Will there be more bank closures, and will these two closures ripple through the economy? It does not appear that these closures will be a systemic risk to the economy. In our opinion, these were largely unique banks with liquidity events, not solvency events. In addition, the Federal government has stepped in and will allow ALL depositors of the two failed banks to have access to ALL their cash. This relieves concerns around liquidity for the customers at the banks. As we write today, the S&P500 is positive despite the negative news thus suggesting that the contagion risk is limited.
Furthermore, SIVB and SBNY are not like most other banks. While capital, wholesale funding and loan to deposit ratios improved for many US banks since 2008, there are exceptions. As shown in the first chart, SIVB and SBNY were in a league of its own: a high level of loans plus securities as a percentage of deposits, and very low reliance on stickier retail deposits as a share of total deposits. This is why the banks failed.

Does one of the banks in the chart look different than the others? Adjusting for loss, SIVB was woefully short on its Tier 1 Capital Ratio. SBNY, not shown in the chart had similar metrics to SIVB. The Tier 1 Capital Ratio is a key measure of a bank’s financial strength which measures a bank’s core equity capital against its total risk-weighted assets.

Based on the data above, the prominent U.S. banks such as JPM and WFC are in much better financial standings. Bottom line: SIVB and SBNY carved out a distinct and riskier niche than other banks, setting itself up for large potential capital shortfalls in the extreme case of rising interest rates, deposit outflows and forced asset sales.

What Additional Actions Could Be Implemented To Provide Relief

We will be watching the government’s future actions closely in the coming weeks. Based on current actions, it is likely that the U.S. government will continue to provide a level of support to instill confidence in the U.S. banking system.

What could be done by the government and banks to restore confidence?

  1. The FDIC could raise the deposit insurance ceiling from $250,000 to an unlimited amount as they did temporarily in 2008.
  2. Banks need to get their deposit base to stop figuring out how to buy a 4.5% money market funds, Treasuries, and CD’s. They could do this by raising the interest rates they pay on deposits from 0.50%, immediately.
    • This way the public gets the message that money in banks is safe, no matter the bank, or the amount.
  3. Pause interest rate hikes or even cut interest rates.
  4. FDIC and the Fed are weighing creating a fund that would allow regulators to backstop more deposits at banks that run into trouble.
  5. The Federal Reserve will ease the terms of banks’ access to its discount window, giving firms a way to turn assets that have lost value into cash without having to recognize the losses.

Other common Question

  • Is there direct portfolio exposure to the affected or “at risk” banks?
    • No direct exposure to either the affected or the deemed “at risk” banks.
  • Will secondary tremors spread to other financial sector holdings?
    • We expect the banking industry to be under continued pressure until more clarity is provided. Ultimately, we believe the U.S. government will provide various levels of support needed to instill confidence and calm markets.
  • Will this ripple into a recession?
    • The banking issue should not directly lead to a recession. Recall, this is a cash flow mismatch between liquid assets and bank deposits. Bank loans did not go bad. However, higher inflation and increases in interest rates may lead to a recession.
  • Are portfolios built to weather the ups and downs?
    • Building a portfolio with lots of different types of investments spreads the risk around. A well-constructed and professionally managed portfolio based on diversification should smooth out the ups and the downs of different market cycles. It’s very important that I point out that a diversified portfolio is in no way immune to losses, but with the right amount of guidance and discipline, diversification can be the key to achieving long term results.
  • Are we making any changes as a result of the banking defaults?
    • No not yet. We have taken steps in advance to reduce risk in portfolios. However, we are continuing to monitor the developments and could make changes accordingly.


The irony of SIVB and SBNY is that most banks have historically failed due to credit risk issues. This is the first major one I recall where the primary issue was a duration mismatch between high quality assets and deposit liabilities. The problems faced by these failed banks, which at first glance may be considered potentially systemic, actually appears to be reasonably idiosyncratic. Any bank run is damaging, but these banks were unusually vulnerable to the change in macro regime post-pandemic, rather than a canary in the banking coal-mine.

In the short term, negative sentiment may linger, and some other small banks may suffer. We also have to realize that the banking situation is fluid where headlines could drive short term market fluctuations. However, it’s reasonable to conclude based on the data we have, these banks were a relatively unique case — unusually exposed, on both the liability and asset sides, to rising rates and the waning euphoria in financing markets. On Friday, the stock market echoed the same sentiment and was only down -1.44%. In contrast, in 2008 when Lehman Brothers failed, the market was down -4.8%. So far today, the market is reacting positively to the news of U.S. government support of banks.

When volatility and fear strike the stock market, our instinct is to remove our investments from danger. This action typically leads to poor returns as timing the market is near impossible. For example, despite a healthy amount of investors skepticism resulting from fears of high inflation and increasing interest rates, the S&P 500 is up 8.73% from the October lows. While short term market pullbacks can be difficult, it can present phenomenal opportunities for long-term investors. That is why our team believes it’s critical to work with a financial advisor who can tailor your portfolio to your personal risk tolerances. This can help you stay confident and be the contrarian who sees the opportunity in fear as we wait for the market to move higher over time.

We will continue to be pro-active with your portfolio management and we will provide updates to our clients during these volatile times. If you have any questions, please feel free to reach out to us directly at 410-677-4848.