Explained: Why America’s Silicon Valley Bank collapsed

The seeds of SVB’s demise were sown when the bank invested heavily in long-dated US government bonds, including those backed by mortgages.

| Updated: 14 March, 2023 5:11 pm IST
Silicon Valley Bank has exposure in as many as 20 Indian startups including Paytm.

Silicon Valley Bank (SVB), the 16th-largest US bank with almost $210 billion in assets, was seized by California regulators last week after depositors rushed to withdraw funds over concerns the bank might become insolvent.

The collapse of SVF created the second-largest bank failure in US history since the Federal Deposit Insurance Corporation was forced to take control of Washington Mutual in 2008 during the subprime housing crash.

US treasury secretary, Janet Yellen, said that the Biden administration will not bail out the Silicon Valley Bank but is working to help the depositors concerned about their money.

SVB and the US saving bonds

A US savings bond is a common type of government bond, which is issued by a governmental body to raise funds from the public to fund its capital projects and other operations necessary to manage the economy.

When the government sells bonds, it is in effect taking a loan from the public, which it promises to pay back at some predetermined date in the future. As compensation for providing it with capital, the government makes interest payments to its bondholders.

Many people find these bonds attractive because they are not subject to state or local income taxes. These bonds cannot easily be transferred and are non-negotiable.

The seeds of SVB’s demise were sown when the bank invested heavily in long-dated US government bonds, including those backed by mortgages. These were, for all intents and purposes, as safe as houses.

But bonds have an opposite relationship with interest rates. When interest rates rise, bond prices fall. So when the Federal Reserve started to hike rates rapidly to combat inflation, SVB’s bond portfolio started to lose significant value.

If SVB were able to hold those bonds for a number of years until they mature, then it would receive its capital back. However, as economic conditions became difficult over the last year, with tech companies particularly affected, many of the bank’s customers started drawing on their deposits.

SVB didn’t have enough cash on hand, so it started selling some of its bonds at steep losses.

SVB’s customers were largely startups and other tech companies that started becoming needier for cash over the past year. Venture capital funding was drying up, companies were not able to get additional rounds of funding for unprofitable businesses and therefore had to tap their existing funds — often deposited with the Silicon Valley Bank.

So SVB customers started withdrawing their deposits. Initially, that wasn’t a huge issue, but the withdrawals started requiring the bank to start selling its own assets to meet customer withdrawal requests.

Because Silicon Valley customers were large businesses and wealthy tech houses, they likely were more fearful of a bank failure since their deposits were over $250,000, which is the government-imposed limit on deposit insurance.

This required SVB to sell typically safe bonds at a loss and those losses added up to the point that Silicon Valley Bank became effectively insolvent. The bank tried to raise additional capital through outside investors but was unable to find them.

It took just 48 hours between the time it disclosed that it had sold the assets and its collapse.

The SVB shares plunged by 41 per cent, their biggest decline since 1998. The slump in their shares came after the bank announced that it had sold all of the available-for-sale securities in its portfolio and updated its forecast for the year to include a sharper decline in net interest income.

On March 10, prominent venture capitalists advised portfolio businesses to withdraw their money from the Silicon Valley Bank. Following this, the California regulator shut Silicon Valley Bank and appointed the Federal Deposit Insurance Corporation as a receiver.

Established in 1983, Silicon Valley Bank was, just before collapsing, America’s 16th largest commercial bank. It provided banking services to nearly half of all US venture-backed technology and life science companies.

SVB, which benefited hugely from the tech sector’s explosive growth in recent years, also has operations in Canada, China, Denmark, Germany, Ireland, Israel, Sweden, and the United Kingdom.

On March 13, the US Treasury announced that HSBC had acquired the UK arm of SVB for £1 or ₹99.

The bank’s assets tripled from $71 billion at the end of 2019 to $220 billion at the end of March 2022. Deposits rose from $62 billion to $198 billion over that period, as thousands of tech startups parked their cash at the lender.

Investors are now on edge about whether SVB’s demise could spark a broader banking meltdown.

The US government has also shut down Signature Bank, a regional bank that was believed to be on the brink of collapse, and guaranteed its deposits. The bank’s stock plummeted 60% last week and dragged other bank shares down with it as investors began to fear a repeat of the global financial crisis of 2008.

There are already some signs of stress at other banks. Trading in First Republic Bank (FRC) and PacWest Bancorp (PACW) was temporarily halted on Monday after the shares plunged 65% and 52% respectively.

American multinational financial services company, The Charles Schwab Corporation, witnessed a 7% downfall in stocks on Monday, March 13.

In Europe, the benchmark Stoxx Europe 600 Banks index, which tracks 42 big EU and UK banks, fell 5.6% in morning trade — notching its biggest fall since last March.

Shares of embattled Swiss banking giant Credit Suisse were down 9%.

SVB isn’t the only financial institution whose investments in government bonds and other assets have fallen dramatically in value.

At the end of 2022, US banks were sitting on $620 billion in unrealised losses — assets that have decreased in price but haven’t been sold yet.

The aggressive interest rate hikes by the Federal Reserve System, the central bank of the US, over the past year had a noticeable impact on the start-up industry, in which Silicon Valley Bank played a significant role.

Impact of SVB’s fall on Indian startups

Silicon Valley Bank started investing in Indian startups in 2003 and has exposure to more than 20 Indian startups.

Indian startups that received SVB funding include Paytm, Carwale, Bluestone, Shaadi and Sarva, as per startup research advisory firm Tracxn.

After SVB’s fall, startup founders and investors exchanged rumours about which Indian firm will be the first to fall.

To the adverse impact of the fall at bay, Union minister of state for entrepreneurship, skill development, electronics & technology Rajeev Chandrasekhar said he will meet startup founders to under their concerns and any help that the Centre could extend to them.

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