What the SVB Collapse Could Mean for Investors
It was a bad time to be a bank stock a few weeks ago. The equity market saw some rocky times following the Silicon Valley Bank’s collapse. All US banks were in a bad place, and the entire financial sector was under pressure.
Commodities like oil fell within the materials and energy sectors, leading to incredible losses. The investors turned to defensive sectors, while tech stocks recovered a little after the regulators walked in to cover the depositors at the Silicon Valley Bank.
Silicon Valley Bank: The Collapse
Silicon Valley Bank failed as the second-largest bank in US history. It was a part of the SVP Financial Group and was the go-to bank for all the startups in the US.
By the end of 2022, Silicon Valley Bank had $200 billion in assets and deposits. Silvergate Capital Corporation and Signature Banks were two smaller banks that also collapsed and were key institutions for cryptocurrency ventures.
The Interest Rate Policy Caused Issues for the SVB
It’s easy to see how rapidly the interest rates rose during the past year, leading to Silicon Valley Bank’s losses. However, the near-zero rates during the past few years resulted in massive deposit increases, which set things up for failure.
When rates are closer to zero, the opportunity cost of investing in businesses that will take a long time to profit is low. The result can be referred to as a bubble in technology investments.
According to Muhammad El-Erian, “We prolonged the period for overly loose monetary policy. However, when adjusting the monetary policy, the Fed didn’t act as fast as it should have, and then it had to apply the brakes.”
Regulators Saved the Depositors
It is true that regulators saved depositors, but they could have handled things better. Regulators quickly avoided the meltdown that would have occurred if the companies couldn’t access their deposits. However, some analysts believe they were aware of the risks earlier.
Moreover, some of them have blamed changes for banning regulations in 2023. The banks with assets less than $250 billion were exempt from rules applied to systematically more important banks. However, whether or not SVB is too big of a bank to fail is extremely debatable.
You can argue that everyone knew the rates would rise well before the federal reserve started increasing rates. So, from the viewpoint of the bank’s asset allocation, it would make perfect sense to reduce their exposure to the US long-term bonds that wouldn’t experience the same decline in price as much as bonds with a longer duration.
However, the regulators must have been aware of the risks posed by banks exposed to the tech industry.
Moreover, the SVB and the Signature Bank were outliers regarding the percentage of deposits the FDIC hasn’t insured.
Rapid Rising Rates Were Needed, but Was It Too Soon?
During the last 12 months, experts said that the central banks must increase the interest rates until something breaks. That time has already come, and the tax expectations have changed completely.
Only a few weeks ago, the market was factoring in a 75% chance of a 50 basis point increase. Moreover, the “no change” option did not feature.
The market is at a place where it is once again expecting a 0.25% hike. However, the odds of a pause are also rising. Whether you believe it or not, some economists are even expecting a rate cut.
The thinking right now is that banks and depositors will be more cautious than ever. As a result, liquidity will be taken out of the system. The Fed can now hand over the job of increasing rates to the banking system.
Access to Credit Will be Difficult:
The Fed and the FDIC have protected many tech companies from total destruction, which could have had disastrous effects on the industry. If businesses couldn’t access their bank accounts, they would not be able to pay their employees or buy supplies for their products and services. Even some of the largest companies had their chunk of cash reserves at SVB.
For the time being, companies may have some temporary issues processing transactions. However, in the long run, well-capitalized companies will be able to operate.
There is another issue; the venture-backed business may have difficulty accessing credit now that SVB, a prominent lender, is gone. Also, in the wake of the SVB failure, tech investors may stay away for a while.
Concentrated Client Bases Will Be Riskier for Regional Banks
Investors are leaving banking stocks, especially those from regional banks, following the collapse of Silicon Valley Bank. It was feared that the depositors would withdraw their funds from regional banks, leading to further failures. Moreover, the shares of regional banks fell by more than 50%, even though these banks appeared to be solvent.
Regional banks are most likely to have concentrated client bases that operate across various industries. It makes them vulnerable when those industries are in a state of crisis. However, they can also be affected if a bank is triggered by events elsewhere in the market.
One of the consequences of the recent events is that the depositors have escaped to some of the largest banks. For example, the Bank of America recently received $15 billion in new deposits only a few weeks back, as people moved away their deposits from regional banks. This means the banking sector is more concentrated than ever, which creates a systematic kind of risk.
The demand for banking stocks has declined elsewhere too. A good example is Credit Suisse. Their share price fell by 30% after its top investor said it would no longer provide further capital. The group now depends on the Swiss National Bank for a bailout of $53 billion.
The Financial System Contagion Is Contained
Currently, the risk of contagion is limited. Most banking systems have limited exposure to three banks. This scenario is far more different from 2008, when all the major banks had exposure to one another.
However, while the bond market liquidity has dried up, the bond yield has fallen. It will make things difficult for the Fed’s plan to shrink its balance sheet.
What Does It All Mean for Investors?
- The tech industry has survived a disaster. However, new tech companies that need more funding will likely face difficulties moving forward.
- Because of the increased risk, bank stocks have been repriced. Moreover, regional banks could still be at risk if they lose further deposits.
- The pace at which rates hike can slow down eventually. This means the credit markets could still tighten if the rates don’t continue rising.
- The financial system doesn’t face the same risks as in 2008. However, liquidity might become an issue.
The collapse of the Silicon Valley Bank is a major story in the financial sector, affecting the investor fraternity greatly. If you need more stories like this, Orion Metal Exchange is the place to be.
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