How Will the SVB Collapse Affect the Markets?
Did you wonder why banks don’t ever go on vacations?
Because they might be afraid of a run on the beach. Ok, we accept that wasn’t the best joke you have heard.
But bank runs have been in discussions lately. And it has to do with the collapse of Silicon Valley Bank.
As the name suggests, the bank had a lot to do with Silicon Valley startups. The whole episode also has a lot to do with rising interest rates and bond investments.
Are we going too fast? Then let us understand slowly what exactly happened and why Silicon Valley Bank is in the news.
Let us also see why many banking stocks are getting hammered and what the effect of a bank collapse is on the broader markets.
A Background of Silicon Valley Bank
Silicon Valley Bank was founded in 1983 and is headquartered in Santa Clara, California.
As you can tell from the location, the bank wasn’t far from the famous Silicon Valley area which is an iconic place for technology-focused companies. Some of the biggest names in tech were born in Silicon Valley.
Before its collapse, Silicon Valley Bank was the 16th largest bank in the US. So, it was, by no means, a small insignificant bank.
Silicon Valley Bank’s customer base was heavily skewed towards the technology industry and it is believed to have played a vital role in the growth and success of technology companies.
It has extended key financial services to foster innovation and growth of the famed tech startup ecosystem in the US.
Some of the key services offered by Silicon Valley Bank included venture capital financing, private banking, personal lines of credit, and mortgage financing.
Entrepreneurs, venture capitalists, and tech companies were all customers of Silicon Valley Bank.
It was estimated that about half of all US venture-backed tech and healthcare companies were financed in some form by Silicon Valley Bank.
So What Happened On 10th March 2023?
On the morning of 10th March (Friday), trading of SVB shares was halted by the exchanges and the bank was taken over by regulators subsequently.
However, to understand why this happened, one needs to rewind back to 2020. The pandemic led to ultra-low interest rates and surplus liquidity.
SVB’s deposits went up significantly and it had to deploy that money somewhere. The bank bought billions worth of long-term bonds to earn some yield.
Fast forward to 2022 and the interest rate hikes along with high inflation were making the headlines everywhere.
As bond prices are inversely proportional to yields, a rise in bond yields means a fall in bond prices.
If you are wondering just how bad the price fall could have been, consider the fact that US 10-year yields went from around 1-1.5% to almost 4%. It has a huge jump in a very short period.
The rise in interest rates also led to a bearish sentiment towards technology and growth-oriented companies. Start-ups found it more challenging to raise funding from private financing.
So, start-ups withdrew more money from their SVB accounts. It was a double whammy for SVB as it faced losses on its bond investments and its customers were withdrawing cash at a fast pace.
As things started getting worse and people started realizing the predicament of SVB, venture capitalists advised their portfolio companies to withdraw money to avoid getting caught in a collapse or bank run.
Fear turned to panic and there was a run on the bank. It ended on 9th March with a negative cash balance. SVB did try to raise capital on the 9th but failed to do so. By the 10th, it was taken over by regulators.
A combination of factors led to the collapse of Silicon Valley Bank.
What Is The Effect Of The Collapse On The Market?
The fall in SVB bank’s stock was spectacular. From a closing price of $267 on March 8th, 2023 to a closing price of $106 on March 9th, there was a 60% drop in the price of the stock in just 24 hours.
This massive development also dragged down other bank stocks, especially regional banks. There were fears that a 2008-like crisis could unfold. Bank stocks around the world were affected by the developments.
In the technology sector, there was a major impact as start-ups could not withdraw their money and pay wages to their employees.
Any negative impact on growth companies would in turn impact the lenders to those companies. Banks and financial institutions that had exposure to technology and growth companies also began to feel the heat.
Not only that, even the central bank of Japan considered delaying any changes to its monetary policy due to the SVB episode. The collapse of a bank in California had global implications.
Some of the most direct effects of SVB’s collapse are expected to play out in the technology sector. Startups could find it more difficult to raise funding and they may have to change their business models.
Some startups may not survive at all. This comes at a time when even giants like the FAANG companies have been laying off employees in the thousands.
However, one unintended positive could be that of startups focusing more on profitability rather than cash burn.
The other potential effect that is being discussed with a lot of vigour is the Fed’s stance on interest rates.
Since the collapse of a bank can be a big negative for the economy, especially if banks with exposure to SVB also start facing losses, there is a narrative going around that the Fed could pause its interest rate hikes.
There were signs that the market was expecting this sort of development judging from the 30-50 basis point fall in the US 10-year bond yields. Any such rate hike pause could be a major positive for technology stocks as well as cryptocurrencies.
However, the most recent inflation numbers came in as expected and therefore, the Fed may yet continue to raise interest rates.
Only time will tell. Traders need to keep an eye on the price action for further cues.