Silicon Valley Bank collapse

 

SVB Crisis: What led to fall of Silicon Valley Bank?

On Friday, the banking regulators in the US shut down the "financial partner of the innovation economy", as the Silicon Valley Bank (SVB) called itself after it suffered a swift collapse. It has sent shock waves across the tech and banking industries. Undoubtedly, the bank catered to a very specific crowd of start-ups, venture capitalists (VCs) and tech firms, but before its collapse, SVB was the 16th biggest bank in the US.

Moreover, it is the second bank, after Silvergate, that collapsed last week. It was followed by the US banking regulators shutting down the Signature Bank on Sunday, the third bank to close its doors in a week.

Interestingly, it is the second-largest bank failure in the history of the US and the first such incident after the 2008 depression. Before this, Washington Mutual Bank had collapsed in September 2008. It had assets worth $307 billion and deposits of $188 billion. SVB, just before its collapse, held assets worth $209 billion and deposits of $175 billion.

What is the Silicon Valley Bank?

Started in 1983 in Santa Clara, California, SVB was among the biggest supporters of the tech industry. As of 2021, it claimed to bank for around half of all the US venture-backed start-ups. Apart from tech companies, it also served media companies like Vox Media.

The bank also had deposits from several cryptocurrency firms. Circle said it has $3.3 billion worth of its reserves with the SVB. After the revelation, Binance and Coinbase suspended the withdrawal in Circle's stablecoin USDC. Now bankrupt crypto lender BlockFi also has $227 million stuck at SVB.

The bank became a hero among start-up founders by lending money even when no other bank did. According to a report by The Verge, SVB lent against the money owed to a business' receivables. 

Not only start-ups but SVB was also known as the "go-to bank for investors". It had deposits from over 2,500 VC firms. Over the years, it has also invested in several VCs, including Sequoia Capital, Accel Partners and Greylock.

What led to the collapse of SVB?

Basically, a bank accepts deposits from its customers. It then uses the deposits to extend loans to other customers and uses the rest of the money to invest elsewhere. It is done with the assumption that all the depositors will not show up at the bank's door to withdraw their deposits at the same time.

Now, like other banks, SVB has also invested the money into safe instruments like bonds. After the 2008 depression, the interest rates in the US were very low. This ensured cheaper loans, and VCs invested more and more money into the start-ups. This, in turn, benefitted the banks like SVB because these start-ups trusted them with their deposits.

However, last year the US Federal Reserve started hiking the interest rates. From 0.25-0.50 per cent in March 2022, the Federal Fund Rate has now been raised to 4.5-4.75 per cent. Fed Chair Jerome Powell recently said that the interest rates might be raised to 5.75 per cent.

This reduced the returns on bonds. It also would not have been a big issue as the bank would have waited for the bonds to mature, but the higher interest rates have also led to a slowdown in start-up funding. This reduced the pace of deposits at SVB

On March 8, the bank said it sold $21 billion of securities at a loss of $1.8 billion to ensure liquidity. It was also planning to sell $2.2 billion worth of shares.

Moody's downgraded the bank's credit rating. On the same day, Peter Thiel's Founder's Fund asked its portfolio companies to pull out their money from SVB. Several VCs like Union Square Ventures and Coatue Management followed.

The SVB was unable to meet such a high demand for withdrawal at such short notice. On Thursday, March 9 alone, the customers tried withdrawing $42 billion from the bank. It was equal to a quarter of the bank's total deposits.

The FDs in US are insured for $250,000 only so deposits over that limit would get the remaining amount only partially.