Concerned About The Banking Failures?

The markets were hit with a major surprise this past weekend when Silicon Valley Bank (SVB) collapsed.  This was quickly followed by the collapse of New York Signature Bank (SBNY).  Many of you might be concerned about the domino effect of these bank failures.

It is important to first understand why SVB collapsed.  SVB is the bank for high tech venture capital companies based in the region known for high tech start-ups.  It wasn’t the lending side that put SVB into the bad position they were in.  That distinction goes to our Federal Reserve system (Fed) and our government.

If you look at history, it becomes apparent when the government/Fed flood the economy with money, bad things follow in banking.  This is because banks are not going to sit on cash.  They will find a place to invest the cash to appease shareholders.  Thus, money is printed by our Fed, floods the market, most of which ends up in banks, and the banks end up trying to find a home for this excess cash, which typically means more risk.  In SVB’s case, a significant amount of all that money printed by the Fed during the pandemic found its way to tech companies.  These companies deposited that excess cash in banks, including SVB.  SVB now has excess cash so they invested this in low interest-bearing government bonds.  Sounds safe, right?  It is safe until it isn’t.

What Went Wrong?

Bubbles pop and the tech bubble of 2021 popped and led to a horrible market in 2022.  Many of these tech companies needed that cash to operate their business so they withdrew a significant portion from SVB.  Here is the problem.  The Fed had to raise rates in 2022 in order to fight inflation.  Recall the inverse relation between interest rates and bond values.  When interest rates rise, traditional bond values decrease and vice versa.  The level of impact depends on the number and amount of rate increases.

The Fed raised rates at historical levels in 2022 so bonds took a historical beating.  This means all those low interest rate bonds SVB bought with that excess cash were taking a beating when the bank was forced to sell them to provide the deposits being withdrawn by their customers.  This caused fear to strike the customers and we saw a run on the bank.  More and more customers started withdrawing money and SVB had to sell more and more bonds at major losses.    Keep in mind, banks have a required level of reserves but it isn’t 100% of deposits.  Banks take much of those deposits and make loans to people.  This is very important part of our economic system as it provides the liquidity for companies and individuals to grow.  Bottom line, SVB wasn’t going to have enough money to return all the customers deposits.   SBNY was known as the bank for cryptocurrency companies, which caused their costumers to get concerned when SVB failed and led to a run on deposits there.

I have seen many reports that this is just a one-off issue and not a concern to the overall banking system.  The truth is it was a major risk but the government did a very good job stepping in and preventing a crisis that could have become severe.  No bank is immune from a run on deposits, especially if that run is significant.  That is why the government came in and made it crystal clear they would back all deposits for those banks in trouble, not just those covered by SIPC ($250,000 per account, per bank).  This appears to have stopped the run on many of these regional banks.

Should You Be Concerned?

Should you be concerned about our banking system?  I am not now that the government has backed the deposits, thus preventing the run on bank deposits from spiraling out of control.  I am concerned that our government doesn’t learn from history and at some point, this will be a major issue.  When the Fed is printing money at material rates, banking regulations must increase.

Banking is very complex and is the heart of our economic system.  There will likely be other areas impacted by this current problem.  However, there is no comparison to the 2008 banking crises or even the Savings and Loan crises in the early 1990s because those were due to speculative loans from a significant portion of those institutions versus this time being more isolated and banks are in much better shape today from a credit perspective.

If the current situation is still concerning to you, please call us so we can discuss your options.  At Virtus Wealth Management, we know this is your money and we are here to serve you.  This includes making sure you are good with the strategy used to make your money work for you.