by | Apr 3, 2023

With the news, social media and radio being awash with reports on the Silicon Valley Bank failure, Resolute Wealth Management would like to ensure our clients that we are monitoring the situation very closely to ensure both your funds are safe as well as to take advantage of any opportunities that may present themselves throughout this period. Below we have answered a few frequently asked questions regarding US based banks as well as included some commentary from our Discretionary fund Manager, Morningstar, illustrating again what has happened to lead to this.

Key Takeaways

  • The closure and wind-down of Silicon Valley Bank (ticker: SIVB) has led to some considerable stress in equity markets, particularly among shares of regional banks, as well as fear of contagion.
  • There are unique elements to SVB that contributed to its demise, including its client base and risk controls.
  • While we are likely not fully “out of the woods” yet, we view the regulatory response as appropriate and likely adequate, which should head off contagion fears.
  • As long-term, fundamental, wisely-contrarian investors, we’re exploring ways to benefit from a potential dislocation in banking stocks, while being mindful of the risks.

FAQ’s regarding SVB

What is happening with SVB?

A bank run on Silicon Valley Bank led the Federal Deposit Insurance Corporation to take control of the bank on Friday the 10th of March in the second-largest bank failure in US history.

The FDIC insures depositors up to $250,000, but as many larger companies used SVB as their bank, they had a lot more than that in their accounts. US customers held at least $151.5 billion in uninsured deposits by the end of 2022, SVB’s latest annual report said. Foreign deposits reached at least $13.9 billion and are also uninsured. But before markets opened this week, the Biden administration took an extraordinary step, guaranteeing that SVB customers will have access to all their money starting Monday, even uninsured deposits.

Do I have to worry about cash I stored in my bank?

In short, if you have less than $250,000 in your offshore account, then you almost certainly have nothing to worry about. That’s because the US government insures the first $250,000 in eligible accounts. Many SVB customers had much more than $250,000 deposited and now that they can’t get their money, some companies are struggling to make payroll following these issues.

Should I pull my money out of my bank?

“It doesn’t make sense to take all your money out of a bank”, Jay Hatfield, CEO at Infrastructure Capital Advisors, and portfolio manager of the InfraCap Equity Income ETF, said. “I don’t think people should panic, but it’s just prudent to have insured deposits versus uninsured deposits,” Hatfield said.

But if I don’t run to pull my money out of the bank now, won’t it disappear?

Your money is most likely not going anywhere.

Everyday consumers, on the whole, are unlikely to be affected. But the collapse is a good reminder to be aware of where your money is held, both locally as well as offshore, and not to have it all in one place.

“The first bank failure since 2020 is a wake-up call for people to always make sure their money is at an insured bank and within FDIC limits and following the FDIC’s rules,” Matthew Goldberg, a Bankrate analyst, said. “Why not? If you have a million, why not have four accounts and have them insured,” Hatfield said. “Why worry about it?”

Is this 2008 all over again?

The banking sector should be, theoretically, more stable due to the regulatory reforms put in place after the financial crisis in 2008. The government’s actions this weekend also try to prevent the next SVB from happening, further stabilizing the sector after a chaotic week. Rising interest rates meant cheap Treasury bonds SVB and other banks invested in years ago crumbled in value – last week’s bank run was triggered by SVB selling those securities at a steep loss to help pay customers’ deposit withdrawals after people started pulling their money out of the bank.

The Fed also said it will offer bank loans for up to a year in exchange for US Treasury bonds and mortgage-backed securities that lost value. The Fed will honor the debt’s original value for the banks that take the loans. The Treasury will also provide $25 billion in credit protection to ensure against banks’ losses, which should help banks easily access cash when they’re in need.

“The Fed ring-fenced the SVB disaster and averted a crisis of epic proportions for the banking sector,” said Wedbush Securities’, Dan Ives.

Can the US federal government contain the panic?

Over the weekend, action from the government was expected to prevent a wider crisis that would lead to more bank runs.

“If they do that, that will stop this panic from spreading to other banks and solve many of the problems, at least in the short term,” Economist Richard Duncan said on Sunday. “If we start to see a significant banking panic, and this is going to have much wider repercussions throughout the US economy.”

SVB was among the top 20 American commercial banks, with $209 billion in total assets at the end of last year, provided financing for almost half of US venture-backed technology and health care companies.

Every bank has losses on their securities and uninsured deposits. US banks were sitting on $620 billion in unrealized losses (assets that have decreased in price but haven’t been sold yet) at the end of 2022, according to the FDIC.

Still, there’s no need to panic yet, say analysts.

“[Falling bond prices are] only really a problem in a situation where your balance sheet is sinking quite quickly… [and you] have to sell assets that you wouldn’t ordinarily have to sell,” said Luc Plouvier, senior portfolio manager at Van Lanschot Kempen, a Dutch wealth management firm. “Most large US banks are in good financial condition and won’t find themselves in a situation where they’re forced to realize bond losses”, said Gruenberg.

“Let me be clear that during the financial crisis, there were investors and owners of systemic large banks that were bailed out… and the reforms that have been put in place means that we’re not going to do that again,” Yellen told CBS. “But we are concerned about depositors and are focused on trying to meet their needs.”

“Monday will surely be a stressful day for many in the regional banking sector, but today’s action dramatically reduces the risk of further contagion,” Jefferies analysts Thomas Simons and Aneta Markowska said in a note to clients Sunday evening.

Steps the US government took over the weekend also quelled fears of SVB turning into a full-blown crisis.

Morningstar’s thoughts by:

Philip Straehl – Global Head of Research, Morningstar Investment Management

Tyler Dann – Head of Research, Americas

Doug McGraw – Portfolio Manager

Why is SVB Unique?

For SVB, the growth trajectory of its deposit base, the concentration of its customers, the peculiarity of its portfolio, and the relative lack of risk controls around the portfolio are fairly unique factors. Per public filings, SVB’s deposit base jumped from $49 billion at the end of 2018 to $189 billion at the end of 2021. Venture capital funding was at all-time highs during this period and start-ups receiving funding were often putting the proceeds into SVB bank accounts. Putting that growth in perspective, SVB’s deposit base grew by approximately 57% per annum in this period while industry deposit growth was only 12% per annum, according to Morningstar’s research. As well, close to half its deposit base originated from technology companies, the majority of which was from early-stage technology companies. Traditional retail deposits, which tend to be stickier and tend to be smaller than the $250,000 insured by the FDIC, comprised a relatively small portion of SVB’s depositor base, making it more prone to a bank run.

As deposits grew rapidly at SVB, it increasingly purchased fixed-income investments. The bonds they purchased (predominantly mortgage-backed securities) were high-quality, but were long in duration, with the weighted average maturity over 10 years. Shortly after making these investments, the Federal Reserve began one of their most aggressive rate hiking periods in history. As interest rates rose, the value of these bonds fell. While in theory, the bond losses only existed on paper (if SVB held the bonds until maturity, they would get all their money back, plus interest), the “mark-to-market”, or unrealized, losses from these investments were significant, exceeding the company’s tangible equity capital. Observing this, depositors became skittish, started redeeming their money, and SVB became a forced seller of many of those bonds to meet redemptions. The paper losses turned into actual losses and laid the foundation for the rush to the exit by SVB’s depositors.

Is This a Lehman Moment?

While the collapse of another bank (Lehman Brothers) was at the epicenter of the Great Financial Crisis of 2008, we believe that the recent bank failures are significantly less likely to trigger a global banking crisis. The speculative excesses that caused the Global Financial Crisis of 2008/09 were rooted in an economy-wide bubble in real estate market, propelled by a large amounts of cheap debt funding that flowed into real estate securities. These leveraged and insufficiently capitalized owners of real estate securities created a fault line in the financial system, causing a global banking crisis as the price of real estate assets started declining and levered investors faced margin calls.

This time around, the speculative excess appears to have been in concentrated in niche segments of equities and alternative asset markets such as companies related to crypto currencies. Unlike the economy-wide debt binge that dominated the period leading up to the GFC, venture capital tends to be equity funded. Consequently, if venture companies fail, the loss typically ends with the investor, rather than being transmitted through the financial system as a bad debt. Additionally, bank balance sheets are, largely a function of the regulatory response to the GFC, significantly stronger than they were in the period leading up to 2008.

We’d argue that while the rapid rise in treasury yields has caused some short-term losses for the banking industry that are substantive, industry capital levels are better positioned to weather the storm. We also believe the regulatory response from the Federal Reserve, the FDIC and the US Department of the Treasury has been quick, unified and substantive. The addressing of insured and uninsured depositors at SVB and Signature, as well as the opening of a borrowing window for short-term collateralized funding available at very attractive interest rates and terms should head off any concerns around systemic risk of a collective “run on the bank” moment.

So, What? Let’s Cover the Investment Implications

First, let’s cover portfolio exposure to Silicon Valley Bank, or SIVB. This stock was listed on the NASDAQ stock exchange so was held by many investors. Some indirect exposure is therefore likely for investors that hold a diverse portfolio using mutual funds or exchange-traded funds. In the case of Morningstar’s managed portfolio range, we expect the maximum exposure to be less than 0.5%, often far less, depending on the strategy used.

Regarding knock-on effects, in the short-term, we’d not be surprised to see market volatility remain elevated, reflecting the increased uncertainty around potential outcomes. In particular, the financial services sector, most notably regional banks, could remain under strain for some time. However, as long-term, valuation-driven, fundamental, and wisely-contrarian investors, this type of setup is one that we’d use to begin searching for opportunities. We’d be looking for our valuation work, coupled with our assessment of fundamental risk and investor expectations, to be our guide in determining whether, when and by how much to increase our investment in the banking industry, as well as other sectors that may potentially be impacted.

As it stands, we have a balanced viewpoint of U.S. financials, with a “medium” conviction rating assigned. From a valuation perspective, the sector looks relatively cheap (the second cheapest, behind communication services) but recent events have increased uncertainty, so careful portfolio construction is warranted. One issue is that the earnings can be quite volatile and cyclical, but bargain prices can present themselves as investors flee from the uncertainty. Armed with research, we stand ready to adapt in this regard and will be looking at both the opportunities and risks very closely.