Silicon Valley: The Consequences of a Bank's Failure

We had intended to use this space to share a fulsome preview of next week’s Federal Open Market Committee (FOMC) meeting. But the Federal Reserve has been preoccupied with the fallout from the failure of Silicon Valley Bank (SVB), and so have we.

As of this writing, repercussions of the event are still accumulating. Here is a summary of what we know, what we think and what we will be watching for.

· The bank’s name and locus might lead one to believe that exposure to tech firms led to the bank’s demise. That is correct, but not in the way you might think.

The firm was a noted provider of capital to start-up firms. But lending losses did not lead to its failure. Instead, it was something old-fashioned: a depositor run. For years, SVB’s tech sector clientele benefited from rapid investment and high revenues, which they deposited at SVB. More recently, their fortunes have changed, leading them to run down deposits.

The withdrawals weighed on SVB’s balance sheet and its reputation. Spurred by social media communication, departures accelerated. To raise cash, SVB sold some of its bond holdings at a significant loss. This added to the anxiety surrounding the company.

Many of the depositors that rushed to withdraw were the same firms that SVB had financed when their own balances sheets were less than fully creditworthy. There is apparently no loyalty in liquidity.

· Early accounts suggested that the Federal Reserve broke Silicon Valley Bank. We do not agree. The bank broke the bank.

Ever since the sky-high interest rates and inverted yield curves of the 1980s, banks have been engaged in the practice of asset/liability management. The essence of the exercise is simple: matching the timing of cash flows produced by assets and liabilities. (Or, at very least, not allowing too much of a mismatch between the two.)