A Single Snowflake Can Start An Avalance: What Is Happening in the Banking Sector?

Let’s dive in and see what’s really going on there.

The day before yesterday, SVB Financial Group #SIVB which is the parent company of Silicon Valley Bank reported that it sold securities from its portfolio with a $1.8 billion loss, and is now attempting to raise $2.25 billion through the placement of common and preferred shares. #SIVB fell 61% to $105 the other day yet the sales didn’t end there.

• The entire banking sector suffered a major hit yesterday ► SPDR S&P Bank ETF #KBE -6.7%; SPDR S&P Regional Banking ETF #KRE -7.6%
• Specific financial leaders ► JPMorgan #JPM -5.2%; Bank of America #BAC -6%; Wells Fargo #WFC-5.8%; Charles Schwab #SCHW -10.5%
• Regional banks were hit particularly hard ► First Republic #FRC -16%; USB #USB -6.5%; Zions Bancorporation #ZION -11%; Comerica #CMA -7.5%

Four Critical Aspects
• SVB Financial Group is a key lender for early-stage companies and a banking partner for nearly 50% of American venture technology and medical companies that entered the stock markets in 2022
• SVB Financial Group’s stocks suffered the greatest losses in the last 25 years
• Venture capital funding may become limited in the coming years
• Customer cash burn went up in February; meanwhile, the investors extrapolate this to the rest of the industry

Details of the latest SVB report
• The year-end balance sheet demonstrates $91.3 billion in securities classified as those held to maturity. What makes this classification important is that it enables us to exclude losses on securities from both profit and equity.
• A footnote to the report states that the fair market value of these securities totals $76.2 billion, i.e. $15.1 billion below their reported value. The year-end value gap was nearly equal to SVB’s net worth of $16.3 billion.

In essence

In recent months, regulating authorities have expressed concerns about banks’ unrealized losses on investment securities. In December, the Federal Deposit Insurance Corporation (FDIC) reported that American banks’ unrealized losses on available-for-sale (AFS) and held-to-maturity (HTM) securities totaled $690 billion as of September 30, 2022, ► up 47% as compared to the previous quarter.

On December 1, the FDIC chairman stated that the combination of a high level of longer–term asset maturities and a moderate decline in total deposits underscores the risk that these unrealized losses could become actual losses should banks need to sell securities to meet liquidity needs. ► Losses can be “significant.”

► SVB Financial Group’s assets and deposits nearly doubled in 2021. Most of them were invested in U.S. treasury bonds and other government-funded debt securities. Shortly after, the Fed kicked off its rate hike campaign ► The latest developments accentuate a huge problem that’s brewing for U.S. lenders who witness how rising interest rates chop away at the cost of their bonds. Interestingly, the banks don’t suffer losses right away—it only happens in case of the sale, as it did with SVB.

Let’s sum things up

• I can see two problems here. 1. The losses on the bond portfolio suffered by SVB lead to the following question: what will the value of securities held by banks be if they are forced to sell them? 2. With the increase in yields, keeping deposits becomes increasingly harder, forcing other banks to sell their securities or hike interest rates for depositors. This, in turn, will result in a drop in the net interest margin.
• Small things sometimes trigger a large response. I believe that the SVB situation may only be the tip of the iceberg as it is yet unknown how many banks are facing a similar problem and what the systemic risk is—and that risk is obvious. The way I see it, a major problem is emerging in the direct investment ecosystem where #SIVB also has a huge market share: if the situation doesn’t improve, the implications for the entire industry could be enormous.