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Understanding the Collapse of Silicon Valley Bank and Signature Bank

Two of America’s major banks—California’s Silicon Valley Bank (SVB) and New York’s Signature Bank—have collapsed, marking the second-largest banking failure in U.S. history. The largest was the 2008 collapse of Washington Mutual Bank, which triggered a global financial crisis and recession. Understandably, this has caused widespread concern about the potential for a similar economic downturn. To grasp the gravity of this situation, we need to delve into how this happened.

Event	Date	Impact
Silicon Valley Bank Collapses	March 10, 2023	Shockwaves across the tech sector; $209 billion in assets
SVB Stock Loss	March 2023	80% drop in stock value, 60% in a single day
Federal Reserve Increases Interest Rates	2022-2023	Rising rates caused bond value drops and liquidity issues for SVB
Bank Run at SVB	March 2023	Customers rushed to withdraw funds, escalating the crisis
SVB’s Receivership	March 10, 2023	FDIC takes control, managing $175 billion in deposits
Impact on Depositors	March 2023	89% of SVB’s deposits uninsured, uncertainty for many startups
European and U.S. Bank Stock Losses	2023	Over $100 billion lost in U.S. banks, $50 billion in European banks

The Fall of Silicon Valley Bank

SVB, the 16th largest lender in the U.S. with $209 billion in assets, collapsed on Friday, creating shockwaves across the tech and business sectors. Its stock lost 80% of its value in one week—60% in a single day.

How Banks Operate

From an individual’s perspective, banks are where we keep our hard-earned money. However, banks are businesses, and their primary model involves using customer deposits to make profits. Banks typically earn through:

1. Lending: Offering loans to individuals and companies, earning interest as profit.
2. Investments: Putting money into stock markets, government bonds, or other assets.

SVB’s Investment Strategy

Founded in 1983 and headquartered in Santa Clara, California, SVB initially invested heavily in real estate. By the early 1990s, half its portfolio was in real estate. However, the 1992 California real estate crash taught SVB a harsh lesson, resulting in $2.2 million in losses. The bank diversified its portfolio, reducing real estate investments to around 10% after 1995.

In the 2000s, SVB shifted focus to technology startups. By 2015, 65% of American startups used SVB, making it synonymous with Silicon Valley’s tech ecosystem. However, this specialization came at a cost: the bank became heavily reliant on a single sector.

The Pandemic Boom and Bust

During the COVID-19 pandemic, venture capitalists poured funds into tech startups, which thrived during lockdowns. By 2021, startups raised $330 billion—double the previous year’s record. Consequently, SVB’s deposits soared from $62 billion in 2020 to $124 billion in 2021.

SVB invested much of this money into government and corporate bonds, considered safe investments. However, these investments were made when interest rates were at historic lows (0%-0.25%), assuming rates would remain stable.

The Impact of Rising Interest Rates

The Federal Reserve increased interest rates to curb inflation, which had surged due to factors like the Russia-Ukraine war. Rising interest rates decreased bond values, causing significant losses for SVB. At the same time, startups, facing higher borrowing costs, began withdrawing their deposits to meet funding needs.

The Perfect Storm

This created a vicious cycle for SVB:

1. Bond values dropped, causing investment losses.
2. Startups withdrew deposits en masse, leading to liquidity issues.
3. SVB sold $21 billion in bonds at a $1.8 billion loss to raise funds.
4. News of the bank’s troubles triggered a bank run, with customers rushing to withdraw their money.

The Aftermath

On March 9, 2023, SVB’s shares plummeted 60%, and Moody’s downgraded its rating. Regulators stepped in, with the California Department of Financial Protection and Innovation handing over SVB’s receivership to the Federal Deposit Insurance Corporation (FDIC). The FDIC created the National Bank of Santa Clara to manage SVB’s $175 billion in deposits and sought a merger partner.

What About Depositors?

In the U.S., deposits up to $250,000 are insured by law. However, 89% of SVB’s deposits exceeded this limit, leaving many startups in a precarious position. President Joe Biden has assured depositors, including those with uninsured funds, that their money is safe.

Ripple Effects

The collapse has wiped out over $100 billion in U.S. bank stock value and $50 billion in European bank stocks. Companies like Roku Inc., which reported largely uninsured deposits with SVB, lost 10% of their share value. Startups relying on SVB for operations face significant challenges, potentially impacting employee salaries and business continuity.

Comparison to 2008

While some compare this to the 2008 financial crisis, there are critical differences. The 2008 crash stemmed from irresponsible housing loans, leading to a global recession. In contrast, SVB’s collapse is primarily due to sector-specific issues and mismanagement. Experts believe the impact will be contained, as SVB primarily served tech startups rather than a broad customer base.

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Lessons Learned

1. Diversification: Banks must maintain diversified portfolios to withstand economic fluctuations.
2. Preparedness: Anticipating interest rate changes is crucial for long-term investments.
3. Transparency: Timely disclosures could prevent panic and bank runs.

The SVB collapse highlights the importance of prudent decision-making and robust regulations. While the immediate fallout affects the tech sector, the long-term implications for the global economy remain uncertain.