[Silicon Valley Bank, Public domain, via Wikimedia Commons]

Bank Collapse Threatens The Entire System

Earlier in the week, one of the hottest and biggest financial names in the world of tech faced a bank run and capital crisis that eventually led to it being taken over by federal regulators. Silicon Valley Bank became “the largest failure of a US bank since Washington Mutual went defunct in 2008, kicking off the financial panic of that year.

“Founded in 1983, SVB specialized in banking for tech startups. It provided financing for almost half of US venture-backed technology and health care companies,” wrote CNN.

“While relatively unknown outside of Silicon Valley, SVB was among the top 20 American commercial banks, with $209 billion in total assets at the end of last year, according to the FDIC.”

Yahoo Finance explains how the collapse happened. “Back in 2020 and 2021, tech startups were buzzing with sky-high valuations, stock prices were soaring to record highs on an almost weekly basis, and everyone was flush with cash thanks to trillions of dollars of stimulus from the government.

In this environment, Silicon Valley Bank, which had became the go-to bank for start-ups, thrived. Its deposits more than tripled from $62 billion at the end of 2019 to $189 billion at the end of 2021. After receiving more than $120 billion in deposits in a relatively short period of time, SVB had to put that money to work, and it’s loan book wasn’t big enough to absorb the massive influx in cash.

So, SVB did a normal thing for a bank — just under terms that ended up working against it. It purchased US Treasury bonds and mortgage backed securities. Fast forward to March 16, 2022 when the Fed embarked on its first interest rate hike. Since then, interest rates have soared from 0.25% to 4.50% today.

Suddenly, SVB’s portfolio of long-term bonds, which yielded an average of just 1.6%, were a lot less attractive than a 2-year US Treasury Note that offered nearly triple that yield. Bond prices plunged, creating billions of dollars in paper losses for SVB.”

The collapse of the bank threatens the existence of several start-ups in the tech industry. NPR reported that “Silicon Valley Bank became the go-to lender for tech startups that appeared too risky in the eyes of larger, more traditional banks. Eventually, Silicon Valley Bank would come to do business with nearly half of all U.S. tech startups backed by venture capitalists.

“If you’re a high-growth startup, you can’t get a credit card from a normal credit card provider, you can’t get a loan from a big bank, but Silicon Valley Bank would give you that,” Shelf Engine’s Kalb said. “It’s these services that startups couldn’t get elsewhere.”

The meltdown of one of Silicon Valley’s cornerstone financial institutions could not have come at a worse time for the startup ecosystem, said Tan of Y Combinator.

High interest rates and market uncertainty has made lenders tighten the spigot on money, after many years of low interest rates and easy money sent valuations soaring.

Lately, entrepreneurs have been raising alarms about existing cash quickly evaporating, forcing thousands of startups to lay off workers or shutter altogether.”

The stock market had one of the worst weeks in a long time last week. SVB’s collapse “set off a wave of concern over the health of the banking sector, amplifying fears for the broader economy and sending global stock markets lower.

The S&P 500 skidded 1.4 percent on Friday, ending the week down 4.5 percent — its worst week of the year. The decline was led by SVB’s banking peers like Western Alliance Bancorp, which plunged over 20 percent, and Signature Bank in New York, which fell by almost 23 percent.

Ahead of Friday’s drop, the outlook on Wall Street had already turned gloomy after the Federal Reserve’s chair, Jerome H. Powell, told lawmakers on Tuesday that the central bank might have to raise interest rates more than it expected, and possibly at a faster clip, as it tried to rein in inflation. Higher interest rates weigh on stock prices, and raise the risk the Fed’s actions may tip the economy into a recession.

Banks can be especially vulnerable to rising rates, which can cause the value of their investment assets to fall, as was the case with SVB. That can hurt their ability to raise money, especially when clients that are also struggling with the rising costs that come from higher rates are pulling their deposits out,” wrote The New York Times.

[Read More: Americans Struggling With Credit Cards Are Doing This]