What caused the collapse of Silicon Valley Bank?
This article is an excerpt from a 4,000 word analysis that Keith wrote over the weekend. To read the full version on our website, click here.
SVB needed to get a yield on their assets that was greater than the cost of their deposits including the overhead of administering the program, employing people, etc. If you have deposit inflows in 2020, then you buy what's available at that time. You are a price-taker. Let's say you borrow money for one day, but you buy a 10-year bond. Tomorrow, instead of repaying the loan—you cannot repay it—you roll it over. You take out a new loan, at whatever the new rate is for that day. And you keep doing this, a total of 3,650 times. At the end, you finally repay the loan because the bond matures, and the Treasury repays you.
But SVB was different. It had net outflows. So it was forced to sell Treasurys since they are the most liquid. And mortgages, apparently, too. All of a sudden, the theoretical mark-to-market losses, which were previously unrealized because of government accounting rules, became formally realized. If they bought a bond for $1,000,000 in 2020 and sold it for $800,000 in 2023, they really lost $200,000 of capital or 20%.
SVB was the marginal bank, the one which failed first . It was the marginal bank due to its unique flows, first inbound at the wrong time and massive size, and then outbound at the wrong time and even faster. Additionally, it may have made some bad risk management decisions. But it was not strong, it was in a false boom. Then, when the Fed went into purge mode, the boom turns to bust . In the bust, banks fail, depositors lose their cash, etc. And the pressure grows to bail everyone out, thus leaping back into binge mode and another boom phase.As always, crises like this lead to the question of whither the gold price?
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