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Silicon Valley Bank

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

discussion here.

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


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