The crisis at Silicon Valley Bank and its effects on America's largest financial institutions

Rates are increasing, and people taking money out of their accounts hurt SVB and Silvergate. Could it happen to bigger banks as well?

The problems of two small banks on the West Coast are sending shockwaves through the markets and making new investors nervous about some of the biggest banks in the country.

Why? Three words: rates are going up.

The Federal Reserve's aggressive campaign to bring down inflation helped set the stage for major problems at two California lending institutions, SVB Financial (SIVB) and Silvergate Capital (SI), as they lost deposits and had to sell assets at a loss. Bonds were those things.

Banks put a lot of money into assets like Treasury bills because they need a lot of safe places to keep their money. During the early years of the pandemic, when interest rates were at an all-time low and banks were taking in a lot of new deposits but not lending out as much money, many financial institutions put a lot of money into these investments.

But now, the Fed is raising rates quickly. Fed Chair Jay Powell said earlier this week that the central bank might have to speed up the rate hikes to cool the economy even more. The problem this causes for banks is simple: when rates go up, the value of the bonds they already own goes down.

Startups and tech companies withdrew money from SVB's Silicon Valley Bank. Many of these companies ran into new problems when the Fed started raising interest rates.

The loss of deposits forced SVB to sell assets and take a $1.8 billion loss. The bank did this because "we expect continued higher interest rates, pressured public and private markets, and higher cash burn levels from our clients as they invest in their businesses." Thursday, more than 60% of its shares were sold.

Friday morning, before the market opened, SVB shares were down another 60%. Overnight, Bloomberg reported that VC firms like Peter Thiel's Founders Fund and Union Square Ventures had told portfolio companies to pull their money out of Silicon Valley Bank.

Sales by force, losses by force

If banks aren't forced to sell bonds that may have lost value because rates are going up, they don't have to take a loss. Silvergate Capital and SVB Financial, on the other hand, didn't have that option. Withdrawals by customers from Silvergate Bank and SVB's Silicon Valley Bank made them do it.

In the panic that followed the collapse of the cryptocurrency exchange FTX in 2022, customers who used Silvergate withdrew their money. In January, Silvergate said that it had lost $886 million when it sold securities because deposits had gone down. That made the bank much weaker. It said on Wednesday that it would close its bank, and on Thursday, its shares fell sharply.

After telling venture capitalists about the $1.8 billion loss and the new capital raise, Silicon Valley CEO Greg Becker called them on Thursday to ask them to stay calm and not pull their money out. It is now trying to get new capital of $2.25 billion to cover the new losses.

Investors are now worried that even bigger banks might have to do the same thing. The stocks of some of the biggest banks, like JPMorgan Chase (JPM) and Bank of America (BAC), fell Thursday because of this like JPMorgan Chase (JPM) and Bank of America (BAC), fell Thursday because of this. Thursday was the first time in almost three years that a major bank index fell the most.

The biggest U.S. banks are much stronger now than they were before the last big banking crisis in 2008. This is in part because regulators forced them to hold more capital and pass many stress tests over the last 15 years. And the giants have a wider range of customers and sources of money than banks like Silicon Valley or Silvergate, which gives them a lot more choices when times are tough.

Mike Mayo, a longtime banking expert, said Thursday on CNBC that the biggest banks are "a pillar of strength and stability" and are much stronger than they were before the 2008 financial crisis. "The biggest risks are outside of the biggest banks," he said, but "all banks are painted with the same brush."

He said that bank stocks have "gotten Powelled," a reference to the Fed chair.

"If interest rates go from 0% to 5% faster than at any other time in the last 40 years, there will be casualties."

In a speech on March 6, Federal Deposit Insurance Corporation Chair Martin Gruenberg talked about the new interest rate risks facing the industry. He said that all U.S. banks would have $620 billion in unrealized losses on available-for-sale and held-to-maturity securities by the end of 2022.

"The way interest rates are right now has had a big impact on how profitable and risky banks' funding and investment strategies are," he said. "First, because interest rates have gone up, long-term assets that banks bought when rates were lower are now worth less than what they were bought for. Because of this, most banks have some unrealized losses on securities that they haven't yet paid for."

He also said that these unrealized losses "make it harder for a bank to meet unexpected cash needs in the future."

Gruenberg says that the good news is that "banks are generally in good financial shape and have not been forced to take losses by selling securities that have lost value."