Dear Clients & Friends,
As you all know, we have been taking a hiatus from our Weekend Reading
publications over the first quarter of 2023 due to new staff training. However,
we thought we’d bring back the Weekend Reading a few weeks early in light of
the collapse of Silicon Valley Bank and the volume of questions from our family
of clients that ensued. (Although by the time this gets to you, it will already be
Tuesday.) In this reading, we will briefly summarize the situation and discuss
whether or not it should be of concern to our clientele.
Silicon Valley Bank, a pretty big bank which served primarily the venture
capital and high-tech industries, collapsed last week and was seized by the
Federal Deposit Insurance Corporation (FDIC) on Friday. This is the second
largest bank failure in American history. Naturally, many people found the SVB
collapse unnerving; it brought back all too recent memories of the 2008
financial meltdown, which was caused by and nearly eradicated the American
banking system. More than a few clients have asked our team if this collapse
is worrisome to us, and how to properly protect their cash deposits.
Let’s examine what happened to SVB, because we do not think this represents
a systemic problem, nor do we think that severe contagion will follow. So,
what the heck happened??
Silicon Valley Bank’s bread and butter was banking services for venture capital
and high-tech firms. Because the economy is in a “wait and see” mode (due to
the Fed carefully balancing high interest rates with the threat of recession),
there’s not really a lot of venture capital opportunities right now. VC firms are
therefore using up their deposits without replenishing them with profits. This
caused a reduction in the bank’s available capital.
Furthermore, while the economy has held up surprisingly well during the
recent interest rate hikes, high-tech firms have been hit very hard. Exponential
growth in the tech sector during the pandemic has slowed as life returns to
some semblance of pre-COVID normalcy. This also contributed to the
dwindling of SVB’s capital.
These challenges, faced with the mandatory capital requirements for American
banks, forced SVB to sell liquid assets in order to generate cash and “shore up
their balance sheet.” Unfortunately, the only asset at their disposal to sell was
US treasuries. While US treasuries are extremely safe, meaning that they have
a negligible possibility of default, they are very, very volatile. Without getting
too deep into economic theory, and the inverse relationship between bond
yields and bond values, let’s just say that with rates up, the value of the
treasuries they owned had fallen…a LOT! As a result, SVB lost a lot of money
in the sale of their treasuries - $1.8 billion, to be specific.
Between the slowdown in deposits from venture capital firms, high-tech
companies depleting their cash accounts, and big losses due to selling a
laughably undiversified portfolio at just the wrong time, Silicon Valley Bank
had to raise another $2 billion in order to meet their capital requirements -
which they did! But, when they put out a press release indicating that they
raised ample capital, they urged their clients not to panic. In hindsight, this
was probably not the best phrase to use. As soon as they told people not to
panic, guess what everyone did? They panicked. The result was that SVB’s
clients pulled out $40 billion. The next day, the FDIC closed the bank. p.s.- On
Sunday, the FDIC announced that all clients of SVB will have their cash
available to withdraw tomorrow morning.
That concludes our oversimplified, but accurate, summary of events up to this
weekend. So, now what? What do we take from all of this?
1) I do not believe that the collapse of Silicon Valley Bank represents a
systemic problem in the banking industry. This was more the result of a series
of bad choices, an undiversified clientele, an undiversified portfolio, and a bad
press secretary. Could this be another sign of a slowing economy? Yes,
absolutely. However, my main concern is whether or not this is an early sign of
2008 version 2.0, but I don’t believe that is the case.
2) Could contagion make matters worse, or cause the economy to totally
topple over? I’m not sure $200 billion is enough to sink the entire economy. It
sure as heck could hurt a lot. However, with the FDIC having stepped in to
ensure that all cash deposits will be available to withdraw, the possibility of
severe contagion is low. However, I imagine that there will be collateral
damage within the world of crypto currency. The closure of SVB and the recent
collapse of Silvergate has caused some turmoil in the crypto world. However,
very few of our clients have significant investments in crypto, so we’ll end that
3) We still believe that the market will trail lower over the next few months
before we see a recovery. We expect the unemployment rate to rise, and GDP
to fall. But the economy has remained “stubbornly strong,” according to Fed
Chairman Jerome Powell. He uses the term “stubbornly strong” because we
need to slow the economy just a touch in order to continue bringing down
inflation. Almost all clients have cash available and ready for deployment if we
see a significant decline, but we won’t make huge bets on a market fall
because right now, the economy is indeed “stubbornly strong,” And there’s a
remote possibility that the market may not decline sharply from here.
(Although in my opinion, the economy is not “stubbornly strong.” It’s more like
“stubbornly not weak.”)
We hope that we have reduced your anxiety regarding the safety of your
cash. However, if you feel compelled to take further steps, you can multiply
your FDIC coverage by having cash in different types of ownership, as well as
at different banks. A joint account and an individual account both get
independent FDIC insurance, as do accounts at separate banks. That being
said, please DO NOT change the ownership of your assets without talking to
us. You will almost certainly mess up that beautifully crafted, artisanal
masterpiece that is your family’s estate plan. Please do not do that. LOL!
Kidding aside, I hope that this article provides some reassurance. Welcome
back to our Weekend Readings (even though by now it’s Tuesday!) As I finish
this message at 10:31 PM on a Sunday, I bid you good night.
-Matt, and all of us in the home office