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Opinion: The Silicon Valley Bank (SVB) Saga: Too Small to Fail
By: Tony Cailao, FICD
Opinion
Foreword
The following article written by Tony Cailao was published on March 13, 2023, before the cascading events unfolding in the present. With his experience and knowledge, he gave his view and prediction of the future of Silicon Valley Bank (SVB) and its implications for the U.S. Market. Some of which came true in the time between the article’s first publication and its repost into the Institute of Corporate Directors (ICD) website. Read further to get his sense of the current affairs and see how his predictions have played out.
The Silicon Valley Bank collapse is more than a bank failure. Allow us to share this article on the systematic downfall and its profound effects, written by ICD Fellow Tony Cailao:
The Silicon Valley Bank (SVB) Saga: Too Small to Fail
Tony Cailao, FICD
Santa Clara (San Francisco)-based SVB, with $209B asset footings, 16th largest in the USA, was closed March 10, 2023 by the California Department of Financial Protection & Innovation and the Federal Deposit Insurance Corporation (FDIC) was named receiver.
Photo by Mariia Shalabaieva on Unsplash
For years, SVB’s financial position had been inconspicuously deteriorating, until it became evident just two days before it was closed when it unsuccessfully tried to raise $2.5 B capital to cover withdrawals, at which point the FDIC, federal supervisory body for deposits, declared that SVB has failed.
Genesis: SVB head office is strategically located near San Jose where Silicon Valley, the cradle of tech companies and start ups is situated. As such, it is the dominant provider of venture capital loans for early stage, high growth companies. It was the go-to lender of start ups, a unique market segment other banks are disinclined to lend to—as startups have poor obligor risk ratings, hardly any collateral assets, and it required specialized origination skills in prospecting start ups, and more besides. As the newbies’ business flourished, so did SVB. With their strong cash flows—more sources than uses of funds – huge surpluses were deposited with SVB, eventually ballooning its deposit base from $40B to $190B in 2021. Unable to find other borrowers in its target market, SVB’s loan ($60B) to deposit ratio was a miserable 32%! With some $130B funds in dead storage, the bank started to deploy its idle funds in non-loan investments, i.e. bonds and Treasuries— which occurred at a time that the Fed’s (Jerome Powell) top priority was to stave off US inflation, which rose from 1.4% in 2020 to 6.6% in 2022. As the year 2022 opened, SVB’s bond investments reached $130B.
Powell’s main tool in taming inflation was interest tightening, i.e. monetary policy increasing interest rates which makes credit more expensive, and reduces consumption and investment and – in turn – works to lower inflation as firms adjust prices. Unabated inflation led to an aggressive and frequent tightening, yet Powell and his team were cautious in pursuing a “soft landing” – restrained inflation, yet avoiding recession.
Photo by Jack Prichett on Unsplash
‘Yan na! Darkness sets in, overshadowing the stars: interest rates skyrocketed from 1.5% in 2017, trebled to 4.75%, and counting. This upended the boom in venture capital business while causing bond prices to nosedive (whose mark-to-market prices moves inversely to interest rate increases), leaving SVB pitifully exposed, since it purchased the bonds at their peak prices. As venture capital funding withered, SVB’s clients resorted to draw on what was then their surplus funds deposited with SVB. This reduced SVB’s deposits to unviable levels, i.e. unable to service withdrawals, forcing it to monetize its bond portfolio at lower prices, culminating to a $1.8B loss. This is what triggered its failed $2.5B capital raising I mentioned in the preface of this piece, causing the bank into receivership.
SVB’s predicament is not unique. Under the current environment, most notably, the tightening of interest rates coupled with an unusually low loan to deposit ratio, leading to investing idle funds in bonds – all the other banks are invariably in the same rabbit hole. Every bank, whether it’s lending to tech startups like SVB or funding other sectors, is facing many of the same structural pressures, albeit the severity of issues are in disparate degrees – it is like everyone is escaping a shipwreck in the same leaky lifeboat and fighting over who gets out first. (Note: This serves as a cautionary take to all banks).
Photo by Hal Gatewood on Unsplash
Meanwhile, SVB’s customers’ deposits are at risk. FDIC, which protects banks’ clients deposits through its insurance, limits its cover to $250,000 per depositor. Individually, SVD’s customers, sadly, have more than $250k per account. As it happens, more than 90% of SVD’s deposits are uninsured. This spooks the depositing public, and by extension, all the other banks.
As the global financial markets watches this with bated breath, the scale, breadth and depth of the SVB situation has introduced the risk of a collapse of an entire financial system or an entire market system’s instability – potentially catastrophic, which could possibly bankrupt or bring down the entire system, especially so the failure of a single entity, i.e. SVB, can cause a cascading system failure.
In the peculiar argot of risk management wonks: Systemic Risk!
A Fed-led intervention is the only manifestation – protecting and assuring the resiliency of the system – that could tranquilize an otherwise agitated market. Like a denouement of Tom Clancy thriller, the federal government has started to intervene, with the end view to calming down the market. Among others, the low lying fruit is, it is looking for an institution that will buy SVB. My sense is, if the Fed, FDIC specifically, did not intervene, the tense mood would potentially bring the market to the periphery of the September 15, 2008 financial meltdown and trigger a global contagion.
My view: the market after all the noise and rumblings, will come to its senses, discounting a prevailing systemic risk, and finally calm down, albeit would still remain vigilant.
Sana tama ako…
Be well y’all.
Antonio M. Cailao
13 March 2023
Pssst:
I’m taking a position in my view. We will probably know tomorrow, Monday if I’m right. FDIC receivership is an intervention, to my mind, tantamount to a bail out. With the world already experiencing a lot of turmoil, the USA will not allow another exacerbation, even if it entails bailing out a small bank ( which is undoubtedly a failed, closed bank) and risk all sorts of morale hazard, let alone, triggering a nasty chain reaction domestically and internationally. That there is no contagion and meltdown a la subprime debacle is the victory lap of the fed. What’s good for the gander is good for the goose. If I’m wrong and fall flat on my pretty face on Monday, it’s a consolation that this is probably a good read. At least it’s better than going to your dentist. Bonne nuit.
Disclaimer
The information in the article represents the view and opinion of the author and does not reflect the position of the Institute. The publication of the article is not an endorsement by the Institute nor its affiliates. The content provided by the author is of their opinion and is not intended to malign any religion, ethnic group, club, organization, company, or individual.
About the Author
Antonio Cailao’s international banker career straddled more than 30 years and four continents, living and working in Hong Kong, Korea, Venezuela, Vietnam and Singapore; and in the Philippines where he commenced his banking career in Citibank Manila in 1973 as an Executive Trainee. His main businesses included local, regional and international corporate banking, investment banking, global trade, cash management and e-commerce. His career highlights included being instrumental in the establishment of the Consumer Banking and Electronic Banking businesses in Citibank Manila, Asian regional trade and cash management, rationalization of world corporate businesses in both Asia and Latin America, established Citibank presence and branches in Vietnam, and Asia Regional Head of Pan-Asian Corporations’ business in all of Asia, initiated e-commerce business in a US bank in Singapore and the rehabilitation of a local bank in Manila.
Back in Manila, he re-invented himself as an energy person as Chairman of the world’s second largest geothermal company, President and CEO of Philippine National Oil Company, established a renewable energy corporation, he led the privatization of PNOC EDC and Petron, both the largest privatization transactions in the country at that time.
His past board memberships include RCBC Savings Bank, PNOC-Energy Development Corporation, PNOC, Goodyear Tire and Rubber Company, Philippine Mining and Development Corporation, Philippine Bayanihan Society (Singapore), Gulf Oil Philippines, Inc, Board Observer in Energy Development Corporation and Petron. Currently Independent Director in Petron Malaysia Refining and Marketing Berhad (Malaysia). Board Adviser of Bank of Commerce.
His volunteer work included parish church charity work in Seoul, Korea, established skills training for Filipino overseas workers in Singapore, micro financing training to farmers in southern Luzon, tree planting in Rizal province and relief goods donation and distribution in various disaster areas.
In his college days in UP, he established AIESEC in the Philippines, an international youth non profit organization that provides leadership development, international internship and volunteer experience, and in 2011, was inducted in the AIESEC Hall of Fame during its international congress in Nairobi, Kenya. In 2001, he was on the very first batch of Ten Most Outstanding Alumni Award of UP College of Business Administration.
His education were business college and masters degree from the University of the Philippines and Executive Management Courses in Columbia University. He is a Fellow and Teaching Faculty of the Institute of Corporate Directors. He was also keynote speaker and panelist on energy and petroleum in various major Oil and Gas councils and organizations in Asia and Europe.
Tony loves to read, golf, swim and travel.