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How did SVB collapse and what does it mean for financial markets?
 

What is SVB?

Silicon Valley Bank, better known as SVB, is the 16^th largest bank in the United States that had over $200 billion of assets and $340 billion of client funds on its books at the end of 2022.

Its primary focus was helping fast-growing startups, especially in the sectors such as tech and healthcare, with their finances. In fact, SVB was the bank of choice for nearly half of all US venture-backed startups.
 

What happened to SVB?

The story starts with rising interest rates. With inflation persistently high and the economy holding up better than anticipated, the Federal Reserve has aggressively hiked interest rates to their highest level since the 2008 financial crisis.

That has made life more difficult for many of SVB’s clients, dominated by fast-growing but often loss-making businesses that still require lots of cash to keep going. Rising rates led to venture capital drying up and made it more expensive for clients to borrow money, forcing them to tap into their deposits.

That saw deposits and client funds fall more than anticipated, leaving SVB struggling to keep up with the pace of withdrawals. To plug the hole, it sold a chunk of its investment portfolio. The problem was, it sold it for a $1.8 billion loss because the portfolio included bonds that had lost a large amount of their value thanks to higher interest rates reducing their yields.

Importantly, those bonds would have proven profitable if they were held to maturity. But SVB was in a tight spot because over half of its total assets were in its investment portfolio, leaving it with less cash and short on options compared to other banks that have a more diversified asset base.

On Wednesday, March 8, SVB Financial announced it would raise $2.25 billion in equity to help bolster its balance sheet. That set off a siren that the bank was financially unstable and led to some influential venture capitalists telling the businesses they were invested in to start pulling their money from SVB, which only exacerbated the situation for the bank.

That led to its equity sale collapsing, and subsequent efforts to find a buyer failed. SVB was closed by regulators on Friday, March 10. It is the second-biggest bank failure in US history, and the largest collapse since the financial crisis.
 

What happens now?

Control of SVB, for now, has been handed over to the Federal Deposit Insurance Corporation, an independent agency that insures deposits in US banks and is tasked with maintaining stability in the financial system. That means SVB Financial is no longer in control of the bank.

The FDIC has placed SVB’s assets into a new bank named the Deposit Insurance National Bank of Santa Clara and guaranteed that clients will be able to access their money on Monday morning, providing some certainty before the opening bell. The Federal Reserve has also made it easier for other banks to borrow to help provide the funds that impacted companies need and provided a new source of emergency funding.

The hope now will be to find a buyer that can take on SVB’s assets. Without a buyer, the FDIC would repay insured deposits out to clients up to a certain limit, but this could ultimately see some clients receive less than they put in. For now, all client funds, insured or not, are being made accessible in full. This is significant considering 89% of deposits in SVB are not insured at all and will allow companies to withdraw and move their funds as appropriate.
 

SVB collapse causes contagion fears

Understandably, the collapse of SVB triggered fresh fears about the health of the broader financial system and that other banks could face the same fate.

Generally speaking, banks are in a much better state than they were in the last financial crisis and are not in the same position as SVB, which was highly exposed to a fast-growing but cash-hungry group of clientele.

Still, that unexpected collapse runs the risk of being self-fulfilling if it causes a widespread bank run, whereby nervous consumers and businesses start pulling their money from other banks and leave the entire industry short of cash. That is why central banks and regulators have moved so swiftly and dramatically to calm nerves over the weekend.

Smaller regional banks are still deemed at risk of being negatively impacted by the SVB crash if there is a run and people shift toward larger, more financially stable banks. For example, First Republic is down 62% in premarket trade today and set to open at its lowest level since 2012, showing how these fears are playing out in the market. That, in turn, threatens to turn a problem isolated to a niche part of the market into a broader one.

The other major concern is what it means for the future of finance for some vital industries that drive growth and progress, like healthcare, life sciences, and tech. The initial fear that thousands of businesses wouldn’t be able to pay wages and bills this week, which would have caused an even bigger spillover into the wider economy, has been avoided. Still, markets will be wary about the future of funding for startups, which can often fall in the high-risk/high-reward category and find it difficult to secure cash because they are unproven.
 

HSBC rescues UK arm of SVB

We learned less than an hour before the London Stock Exchange opened on Monday morning that HSBC has stepped up to rescue the UK arm of SVB, which has around £6.7 billion in deposits and £5.5 billion of loans on its books.

The Bank of England had a busy weekend trying to find a solution in order to provide some certainty that the 3,300, mostly small clients that the arm serves would continue to access their finances as normal before the markets opened, although it has not fully allayed the jitters this morning.

A flurry of companies including THG and Moonpig issued statements today trying to reassure investors that they don’t expect to be impacted by the situation.
 

What does SVB crash mean for investors?

It isn’t good news for investors in SVB Financial. One senior US Treasury official told Reuters that depositors were being protected but that the bank was not being bailed out. The new policies introduced over the weekend to protect depositors will ‘wipe out’ equity investors and bondholders in SVB, according to the official.
 

Will the collapse of SVB impact interest rates?

The collapse of SVB has flung a spotlight on the impact of the Federal Reserve’s aggressive interest rate hikes and the strain it is having on some parts of the economy. Markets were anticipating another 50bps rate hike when the Fed meets later in March, but odds have now swiftly turned to a 25bps increase following the collapse of SVB on Friday.

Markets believe the Fed could opt for a smaller increase – with some analysts highlighting the possibility that rates are left flat before starting to rise once again in May – in order to ensure that other parts of the financial system do not succumb to the same fate as SVB.

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