What is Silicon Valley Bank?
Rated as the 16th largest bank in the United States until the crash, Silicon Valley Bank (SVB) is a regional bank in the US, headquartered in Santa Clara, California. Incorporated in 1983, SVB was reckoned as quite trendsetting because it was among the early banks to set focus on start-ups and venture capitalists. In December 2022, 56 per cent of its loans were to VCs and PEs secured by their limited partners. SVB is held by SVB Financial Group, which has operations beyond the US across ten countries, including India.
How did it fail?
The fall of SVB is rather unique because it’s a case of asset liability management (ALM) mismatch concerns, which manifested into solvency issues for the bank. From the end of 2019 to March 2022, the bank’s deposits more than tripled to $198 billion; growth outstripped the industry average of 37 per cent. But hit by Covid, the deployment opportunities for funds were quite limited. Hence, deposits were channelised towards investments where there are two types of instruments – shorter duration investments classified as available for sale (AFS) and longer duration instruments classified as held to maturity.
Meanwhile, the cost of deposits for SVB rose to 1.19 per cent against the industry payout of 0.04 per cent by end of 2022. Hence, to manage the yields and mark-to-market (MTM) losses, the bank chose to have a higher proportion of HTM instruments vis-à-vis AFS, something which banks across the globe, including India, are opting for.
What caused the debacle was that much of the HTM was deployed into mortgage-backed securities and when interest rates started increasing, it hurt the yield significantly, and the unrealised losses from the book shot to $16 billion (from 0) by September 2022. As against the equity base of over $11 billion that quarter, the losses technically drove the bank to insolvency that quarter. Alongside this, depositors were also pulling out money for better deployment as rates started moving up; something that the US hadn’t seen in decades.
In December, the SVB revealed its plans to sell part of its AFS portfolio and raise capital. While the former went through and helped garner $21 billion, Silvergate Capital’s voluntary insolvency announcement on March 9, made it impossible for SVB to tap the market and the run on the bank became inevitable.
What is the next course of action?
On March 10, Deposit Insurance National Bank of Santa Clara was immediately set up to absorb SVB’s business. It has been formally placed in receivership under the Federal Deposit Insurance Corporation (FDIC); equivalent of imposing a moratorium on banks, in the Indian context. Depositors up to $250,000 will be eligible for insurance covered by FIDC; for the rest, a formula is being worked out. Ironically, catering to the creamy layer of the Bay area, 85 per cent of the bank’s deposits aren’t uninsured. Meanwhile, being a regional bank, views are divided on whether the Fed should step in to bail it out. The US government has ruled out bailout of SVB.
Is this like a Lehman moment for the US?
Stocks of several regional banks, including First Republic and Signature Bank, are under the water, reacting to the SVB debacle. Given that these banks could be faced with ALM structures, the increasing interest rates could pose threat to some of them, though a mass-scale fall out hasn’t cascaded yet. Also, with SVB being among the popular lenders in the start-up and venture capital space, their customers are likely to face near-term crunch in funding.
Will it have a second order impact on India?
SVB through its parent entity holds investments in Bluestone, Carwale, InMobi, and Loyalty Rewardz. Therefore, a direct impact on the Indian start-up and/or new economy cannot be ruled out. Further, YCombinator one of the key clients of SVB has in turn invested in over 19 start-ups in India. Therefore, we cannot rule out a second-order impact. The funding winter, which was already catching up in the start-up space, may intensify.