Q: Why did Silicon Valley Bank and Signature Bank fail?
A: Silicon Valley Bank (SVB) and Signature Bank failed for three main reasons:
- The banks made bets on interest rates, creating losses that impaired their capital.
- The Biden Administration’s extraordinary level of government spending, after the economy was already rebounding from the pandemic, created 40-year high inflation that required the Federal Reserve to quickly raise interest rates.
- Bank regulators did not sufficiently monitor the interest rate losses banks were taking from the fast-rising interest rates, perhaps because they were excessively focused on the last banking crisis (credit risk) or a political agenda of climate change, racial justice, and ESG.
Q: What were the management failures at SVB and Signature Bank?
A: In many ways, the troubles encountered by SVB and Signature Bank are a classic case of mismanagement of interest rate risk:
- SVB was flooded with deposits during the pandemic—technology companies were highly valued, which enabled them to raise lots of money, and many deposited it with SVB.
- SVB invested much of those deposits in long-term Treasury bonds. Interest rates have risen in response to the Federal Reserve’s efforts to combat inflation, causing bank funding costs to rise and reducing the market value of Treasury holdings as investors more steeply discount future promised cash flows.
- A large decline in the value of the bank’s bond portfolio resulted in losses that caused the bank to be insolvent. In 2020, 10-year interest rates were approximately 0.5%. Today they are approximately 3.5%. That means a 10-year bond purchased for $10,000 in 2020 would today be worth only about $7,900 because rates have risen so much.
- SVB depositors got spooked, withdrawing approximately 25% of their money on March 10th alone, after SVB announced that it sold some of its securities at a loss. Other banks that also experienced large deposit increases and invested in long-term treasuries are now under scrutiny as well.
Q: How large are the bank failures?
A: Before its meltdown on March 10th, SVB held more than $200 billion in assets. It is the second-largest bank to fail in U.S. history. Signature Bank was closed by regulators on March 12th, making it the third largest bank to fail in U.S. history.