After the 2008 financial crisis, regulators imposed tougher rules on banks whose failure could threaten the financial system because of their size, complexity and global reach. Those measures included stepped-up planning to unwind operations in the face of catastrophic losses and requirements to stockpile additional capital. Large regional banks were exempt from some of the rules.
SVB, a regional bank, was the 14th largest US bank that during the recent tech boom grew quite quickly in size and had (up until last year) large cash inflows from capital raisings and IPOs, and little if any need for loans. Therefore, the asset side of the balance sheet became unusually biased toward US treasuries and mortgage-backed securities (MBS) to match the high level of deposits. Rather than keeping the interest risk low, SVB lengthened its duration out to 6.2 years to take advantage of the steep yield curve before the Fed began tightening.
As rates rose and the whole yield curve in the US moved higher (and bond prices lower) unrealised losses mounted and they did not hedge their interest rate risk exposure. The US rate hikes through last year and into this year also caused tech funding markets to dry up in 2022, meaning firms were drawing down cash reserves and reducing overall deposits at SVB. Unrealised loss-carrying assets such as US treasuries and MBS needed to be sold to fund these withdrawals, eroding the bank’s capital base that eventually required an immediate capital injection, causing alarm that precipitated the bank run late last week.
On Friday, the US regulators closed SVB and sent it into receivership. Last night, the regional Signature Bank was also shut down by US authorities as they also had a mismatch of assets.
The present -The US authorities announcement
We have received a joint statement from the US Department of Treasury, the Federal Reserve, and the Federal Deposit Insurance Corporation (FDIC).
“After receiving a recommendation from the boards of the FDIC and the Federal Reserve, and consulting with the President, Secretary Yellen approved actions enabling the FDIC to complete its resolution of Silicon Valley Bank, Santa Clara, California, in a manner that fully protects all depositors. Depositors will have access to all of their money starting Monday, March 13. No losses associated with the resolution of Silicon Valley Bank will be borne by the taxpayer.
We are also announcing a similar systemic risk exception for Signature Bank, New York, New York, which was closed today by its state chartering authority. All depositors of this institution will be made whole. As with the resolution of Silicon Valley Bank, no losses will be borne by the taxpayer. Shareholders and certain unsecured debtholders will not be protected. Senior management has also been removed. Any losses to the Deposit Insurance Fund to support uninsured depositors will be recovered by a special assessment on banks, as required by law.
Finally, the Federal Reserve Board on Sunday announced it will make available additional funding to eligible depository institutions to help assure banks have the ability to meet the needs of all their depositors.”
What happens next?
The announcements suggest that all SVB and Signature Bank depositors will be repaid in full rather than the usual depositor limit of USD 250,000. Importantly, this is different from a bailout as SVB and Signature Bank shareholders and unsecured creditors will not be protected.
The bank depositor bailout now works like this:
1. The Fed gives the money to the FDIC as needed.
2. The FDIC makes all deposits available on Monday (tonight).
3. The FDIC then sells the assets of the banks, which takes some time.
4. The difference between the cost of bailouts of the depositors and the proceeds from the asset sales is the actual amount the FDIC lost.
5. The FDIC charges the other banks a “special assessment” (or levy) to cover those losses, “as required by law,” and then pays the Fed back with the funds it collected from the other banks.
Despite this initial relief, the situation remains uncertain as the implications of this deposit backstop is a new initiative to assist depositor confidence in US regional banks. In addition, the Fed is providing all other banks that may require liquidity for near-term deposit withdrawals, a Bank Term Funding Program (BTFP) offering loans of up to 1 year (collateral is US treasuries or MBS) to allow them time to sell down assets and then repay the Fed.
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