The collapse of Silicon Valley Bank sent shock waves through the financial system and led the U.S. regional banking stock index to its worst week since 2020. The panic around the fate of smaller banks, which have less diversified sources of funding than the big names, enveloped these banks’ depositors as well as markets in general. Investors fretted about the likelihood that other banks with large bond portfolios could face similar issues, if they’re forced to sell those bonds before maturity for fundraising purposes. Some of the banks suspected to be in similar trouble were Signature Bank (SBNY), Customers Bancorp (CUBI), First Republic Bank (FRC), Pacwest Bancorp (PACW) and Western Alliance (WAL); their shares fell tens of percentage points in Friday’s trading.
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Although SVB wasn’t a systemically important bank, its sudden demise led to ripple effects through the system and reminded the regulators about the biggest fear of the GFC (global financial crisis) era, contagion. Whether or not this is a signal of that fear coming true, another bank fell over the weekend, following the same old-fashioned bank run as the one that took down SVB.
Signature Bank’s Collapse
Signature Bank was a lender for real estate and small businesses for many years, until it made a risky bet on cryptocurrency deposits. Signature became one of the main banks of the cryptocurrency industry, the largest after Silvergate Capital (SI), which announced its liquidation last week.
Signature’s decision to become a crypto lender proved to be a huge judgment error. After the crash and seizure of SVB by the authorities, panicked depositors flew to pull their money from Signature’s coffers. The authorities stepped in, apparently not wanting to risk other banking institutions catching fire, and Signature was closed by New York state financial regulators on Sunday.
In a span of just two days, we’ve had a second and a third largest banking failures in the U.S. history (the largest is still, and hopefully will remain so, the collapse of Washington Mutual in 2008).
he FDIC Swoops In
The Federal Deposit Insurance Corporation (FDIC) has moved in quickly to protect uninsured depositors in the two shuttered banks. The U.S. Treasury Department and other bank regulators said that all the depositors of SVB and Signature will be made whole; customers will have access to their deposits starting today.
By announcing that depositors will have access to all their funds, regulators have removed the risk that companies with deposits in Signature Bank or SVB could be unable to pay wages or cover other expenses, which would topple many of the smaller businesses. Besides, one of the key features of the announcement is that this time, as opposed to the 2008 crisis, the U.S. taxpayer’s money won’t be used to bail out banks – basically, the depositors are those that are being bailed out, and not the institutions.
Moreover, the Federal Reserve took extraordinary measures to shore up confidence in the financial system, announcing a new $25 billion Bank Term Funding Program (BTFP) that offers one-year loans to banks under lighter terms than it typically provides. The Fed also has relaxed terms for lending through its discount window.
Are Banks Safe Now?
The announcement that depositors will receive their money in whole and that authorities are working to backstop the financial system soothed fears of a fresh financial crisis that would trigger a recession. The broad U.S. index futures rose on the news.
However, shares of some smaller banks continued sinking in premarket trading, with markets apparently still on edge as all the government containment measures won’t solve the underlying reason for the banks’ troubles, namely, the great mismatch between the duration of the assets and of the liabilities. Moreover, the wind that rolled over SVB is still blowing: the impact of the higher interest rates is just starting to materialize; so, after SVB, everyone is asking themselves, which bank will be hit next. Investors seem to keep in mind that all the containment measures taken so far won’t solve the core problem of some banks, which is a huge mismatch in duration between assets and liabilities.
Even if the regulators succeed in shoring up the banks, there will be indirect casualties in both predictable and unpredictable places. For instance, we are already seeing a large drop in one of the so-called “stablecoins,” USDC, following the disclosure that its operator, Circle Internet Financial, had $3.3 billion tied up in Silicon Valley Bank.
Meanwhile, trouble is brewing in the First Republic Bank, whose shares dropped 71% in the pre-market session, leading the losses among regional banks. FRC is falling despite a statement from the bank saying it had enhanced and diversified its sources of funding and had over $70 billion of liquidity.
Conclusion
As for broader implications of the banking turmoil, traders are a lot less certain that central banks will proceed with aggressive rate hikes. Goldman Sachs economists said that the rescue of SVB and other depositors will tie the Fed’s hands next week. Currently markets anticipate either a 25 b.p. hike or even a break in rate increases, as the Fed will not want to risk another spike in market panic. What a change from just a week ago, when Powell’s testimony ignited bets of a 0.50% rate increase!
