Three U.S. banks failed in the past two weeks, causing a crisis of confidence in the financial system amongst depositors and investors. While other banks may be exposed to some of the same idiosyncratic risks that led to the failure of Silvergate Bank, Silicon Valley Bank, and Signature Bank, it was a coincidence of certain risks and human behavior that led to their failure. The failures do not appear to be due to systemic issues in the financial system and we do not believe there is a risk of contagion. Actions by US regulators helped to solve the issues and restore confidence.
Timeline of the Crisis
The crisis occurred slowly and then all at once. Constraints on bank liquidity were apparent as far back as fall of 2022, but the issue came to a head on March 8, 2023, when Silvergate announced its intention to wind down operations and liquidate.
Silvergate’s balance sheet grew rapidly over the last decade by providing financial services to the growing cryptocurrency ecosystem. At its peak on December 31, 2021, Silvergate held $8.3B of deposits from 94 digital currency exchanges out of $14.1B total deposits.[i] Deposits declined to $11.9B over the next 9 months, and withdrawals were expected to continue as cryptocurrency prices and trading volumes collapsed.[ii] The collapse was accompanied by the insolvency of many cryptocurrency exchanges and financial service companies, including the headline collapse of FTX, once the world’s largest crypto exchange by volume. Through 2022, concerns grew about Silvergate’s ability to fund deposit withdrawals. In order to fund withdrawals, the bank recognized nearly $1B in losses in 4Q 2022 on sales of investments it had made with depositor funds. In summary, capital was costly and scarce.[iii] Management made the decision to wind up before losses could impair depositors.
While there may have been other factors, at the heart of Silvergate’s problem was a high volatility deposit base due to 1) the nature of the depositors’ business, 2) the high ratio of noninterest bearing deposits to total deposits, and 3) the high ratio of uninsured deposits to total deposits. These problems also lie at the heart of Silicon Valley Bank and Signature Bank as we will see below.
Silicon Valley Bank (SVB)
SVB grew its balance sheet rapidly over the last decade by carving itself a niche in serving the tech and venture capital industry. Like most banks, SVB grew at a particularly high rate in 2020 and 2021 due to government stimulus that was injected to support the economy during the COVID epidemic. At one point SVB’s balance sheet nearly doubled over one twelve month period. The bank invested this wave of deposits in long-term fixed income at an all-time low in rates.
Many tech and venture capital funded businesses are consumers of cash and require new capital injections to survive until profitable. Through 2022, venture capital funding became costly and scarce as expectations for returns on capital rose. SVB’s deposits declined 8.5% from $189.2B at December 31, 2021 to $173.1B at December 31, 2022.[iv]
In 2022, SVB recorded $285MM in losses on sales of investments.[v] This is small relative to Silvergate’s recognized loss, but within SVB’s investment portfolio were large unrealized losses. On March 8, the same day as Silvergate’s decision to wind down, SVB announced that it sold the entirety of its investments available for sale and recognized a $1.8B loss.[vi] In addition, SVB intended to raise additional cash of $2.3B of additional cash through an equity sale.[vii] By March 9, rumors had begun to circulate amongst Silicon Valley startups and venture capitalists that SVB’s unrealized losses were so great and its deposit volatility so high that the bank would fail, leaving uninsured depositors to collect as creditors in a lengthy bankruptcy process. The rumors quashed the possibility of an equity raise and fueled a bank run. By the end of the day, the bank had received $42B in withdrawal requests.[viii] Regulators placed the bank in receivership on March 10.
Signature was another bank that served cryptocurrency related clients. As of December 31, 2022, deposits from cryptocurrency related businesses were $17.8B or 20% of total deposits.[ix] Deposits fell 16.5% from December 31, 2021.[x] On Friday, March 10, Signature received deposit withdrawal requests of $17.8B.[xi] This amount of withdrawals in one day put strain on Signature’s liquidity. As of December 31, 2022, the bank had $6.0B in cash, $18.6B in securities available for sale, and borrowing capacity of $14.2B from the Federal Home Loan Bank, a lender of second last resort.[xii] Signature was seized by regulators on Sunday.
The common thread of these failures is the volatile deposit base that created a liquidity crisis when the banks needed to meet withdrawals. All three had uninsured deposits of over 85% of total deposits.[xiii]
On March 12, the Federal Reserve announced a plan to make loans available to any FDIC insured institution. The plan would allow banks to borrow as much as they need from the Fed so long as they post assets as collateral. The Fed would accept collateral at par value rather than market value, which provides more liquidity than banks would receive from commercial borrowing. Consequently, there is virtually no risk that any bank will not be able to meet its withdrawal requests. This could potentially soothe investor and depositor concerns and have a secondary effect of reducing deposit withdrawals.
The FDIC announced that it would guarantee the principal balance of all deposits held at SVB and Signature regardless of the limits prior to the banks’ failures. The implicit guarantee of unlimited deposits that now exists likely helped to soothe depositor concerns in all banks. The decision could increase moral hazard risk that could encourage reckless behavior by bank managers and depositors and lead to another liquidity crisis and Fed bailout.
[i] Silvergate Capital Corporation Form 10-K for the fiscal year ended December 31, 2021, filed February 28, 2022 with the Securities and Exchange Commission
[ii] Silvergate Capital Corporation Form 10-Q for the quarterly period ending September 30, 2022, filed November 7, 2022 with the Securities and Exchange Commission
[iii] Silvergate Capital Corporation Form 8-K filed January 23, 2023 with the Securities and Exchange Commission
[iv] SVB Financial Group Form 10-K for the fiscal year ended December 31, 2022, filed February 24, 2022 with the Securities and Exchange Commission
[vi] SVB Financial Group Form 8-K filed March 8, 2023 with the Securities and Exchange Commission
[ix] Signature Bank Form 10-K for the fiscal year ended December 31, 2022, filed March 1, 2023
[xii] Signature Bank Form 10-K for the fiscal year ended December 31, 2022, filed March 1, 2023
[xiii] Based on calculation for each bank from their respective Forms 10-K for the fiscal year ended December 31, 2022