The collapses of Silicon Valley Bank (SVB) and Signature Bank magnified the uncomfortable challenges facing the banking sector, both domestically and abroad. Already, commentators and industry insiders have drawn comparisons to the 2008 recession and banking crisis, but despite emotional similarities, there’s very different causes driving this fraught 2023 banking cycle.
Below we explore some of the causes behind the collapse of SVB, why middle and small-sized banks are feeling the effects, sound investment strategies institutions can use to avoid the same poor management mistakes that took down the Santa Clara-based bank and more.
- In general, the banking industry is more liquid and well-capitalized than it has ever been
- The current challenges facing the banking industry vary greatly in terms of causes and possible solutions, but both are driven and made worse by paranoia, making it more important than ever to keep calm
- The cause behind this wave of failing banks can be attributed to portfolios overloaded with interest-sensitive investments
- The Federal Reserve will likely continue on their path of interest rate increases to combat stubbornly high inflation
- Small to mid-sized financial institutions should be on the lookout for increased regulatory action as a result of the SVB collapse
How Did SVB Fail?
While extensive regulations put in place following the 2008 banking crisis has kept the top seven or eight banks under a very watchful eye, regional and community banks like SVB weren’t quite so closely regarded by regulators. For the most part, less regulation is typically fine, but some bad apples took advantage and overloaded portfolios with investments that were subjected to significant interest rate risk, such as Treasuries. These risky investments took up to 85% of balance sheets at some institutions, leaving these investments at the mercy of interest rates.
As the Federal Reserve took steps over the last year to fight high inflation by raising interest rates, those investments began to lose value. These losses grew, potentially due to poor management and poor regulatory oversight, leading to too many unsecured deposits. With social media acting as an accelerant, a run on the bank’s deposit occurred, exposing SVB’s decisions. In a situation like this, it couldn’t be stopped. Perhaps if it had been given time, SVB’s investment portfolio might have rebounded and it could have survived. Unfortunately, we’ll never know if that would have been the case.
Which Institutions Are Most Feeling the Impact?
Contagion fear began spreading quickly following the collapse of SVB, deeply impacting small and mid-sized banks, particularly regional and community banks. First Republic Bank, which is the 14th largest bank in the United States, faced a similar fate as SVB but other large banks stepped in to prop it up. This trend of larger banks helping the smaller, more regional banks is a much better short-term strategy than government assistance.
How Does This Situation Differ from 2008?
There were bound to be comparisons between the banking crashes of 2008 and the current challenges facing the banking industry, but the causes behind the two reveal just how different these two events are. The 2008 banking crisis was fraught with 100% mortgages, bad debt, derivatives and many other factors.
This banking cycle has none of that and, instead, 2023 appears to be driven by fear, poor management and the costly oversight decisions of a few banks. The one thing this year holds in common with 2008 is paranoia. If we’re constantly on the lookout for the next bank to fail, we may create a self-fulfilling prophecy if we’re not careful. Our best advice is not to look for problems that aren’t there.
What Can Depositors Do to Feel More Secure?
Removing all deposits from the bank certainly isn’t the answer. It’s still much better to have your money in a bank versus not. Developing a well-thought-out diversification strategy is key. Putting all your eggs in one basket is never ideal. Remember that excess cash, not operating cash, should always be deployed differently. Businesses must engage in quality forecasting from a cash flow perspective in order to make the most of this strategy.
Either your bank or your money manager can help you make these decisions. Our affiliate company, Claris Advisors, has experience managing these types of strategies, reach out to them to learn more and the associated fees.
What Long-Term Effects Might Be Expected?
Although quick action from the government has secured the deposits for all those who banked with SVB, this will have far-reaching consequences. While it was stated that taxpayers won’t foot the bill to cover all depositors, it’s probable that banks will need increased FDIC assessments to cover it, which will definitely be passed on to the consumer in the form of new fees and higher borrowing costs. This also puts FDIC insurance in an awkward predicament after the SVB’s depositor’s uninsured deposits were fully covered.
In response to the collapse of Signature Bank and SVB, there will probably be a new wave of proposed regulations introduced to the bank oversight world. Even banks that have managed to avoid making the same management mistakes as their peers will be affected. Until interest rates begin to go down, we can expect the value of rate-sensitive portfolios to continue to decrease. Those hoping interest rates drop soon are sure to be disappointed.
Expect interest rates to continue rising, making investments in rate-dependent Treasuries and other securities more of a risk. The Fed has instituted a .25% rate increase, with Europe’s Central Bank signaling a .50% increase as both entities try to drag down inflation numbers.
These increasing interest rates are having far-flung consequences of their own. Commercial real estate will soon be facing a challenge over the next two years as the five and seven-year notes they took out in 2016 and 2017, when they were at an all-time low rate, come due. There is close to $1.1 trillion dollars coming due in the next two years. Lending will tighten and renewals will be costly, so take the time now to prepare yourself or your organization for what lies ahead.
We recommend working alongside your financial team, including bankers and CPAs, to create long-term wealth-building and protection strategies. Learn more about the associated fees by contacting Anders below.All Insights