Silicon Valley Bank has collapsed. What does this mean for your bank? It’s probably not much.
Fadel Lawandy is an associate professor of finance and the director of the C. Larry Hoag Center for Real Estate and Finance at Chapman University in Orange, California.
Before we get into the details, let’s first briefly recap: SVB collapsed on March 10th due to a bank ran, which is an influx of depositors pulling their money simultaneously due to fears that the bank might go under. After the CEO of Silicon Valley Bank revealed to shareholders that Silicon Valley Bank had suffered a loss of $1.8 billion from selling U.S. Treasury bonds, mortgage-backed securities and other assets at a loss, depositors were alarmed.
SVB’s demise was not a routine event. You shouldn’t worry as long as your bank has FDIC-insured.
Lawandy answers questions about the unique circumstances that led to SVB’s collapse and how other banks can avoid a similar fate. This interview was edited to be more concise and clear. )
NerdWallet: There has been a lot of uncertainty since the Silicon Valley Bank collapse. Are everyday consumers supposed to be concerned about their bank?
Fadel Lawandy – This is only available to Silicon Valley Bank and other small banks that cater to new ventures and businesses. Banks like Chase, Bank of America and Wells Fargo, which are your everyday consumer banks, have more flexibility and stability. These banks are the “niche” of banks that find themselves in such situations.
NerdWallet What makes larger financial institutions more secure?
Fadel Lawandy: Silicon Valley Bank is the bank for new companies. Inflation causes the cost of everything to rise, and new companies will need to spend more money. Inflation and rising costs of doing business led to increased withdrawals by these companies.
These withdrawals were faster than the bank’s liquidity. This is not to suggest they didn’t possess the assets. However, Silicon Valley Bank didn’t have enough cash because it used money in the bank to purchase Treasury bonds. The decrease in Treasury bond prices is due to the rise in interest rates.
These numbers are not real. However, Silicon Valley Bank purchased Treasury bonds at $100 and the bonds’ value dropped to $75. Silicon Valley Bank needed to sell some bonds in order to make cash for their depositors. The bank must also record any loss if it sells something for less than the price it purchased it.
Silicon Valley Bank would not have suffered a loss if it had held the bonds on its balance sheets until maturity. They had to sell the bonds, which is why the bank recognized the loss. They had to sell the bonds to make cash for their depositors, as their depositors were spending more than they used to.
It’s as if you have to choose which one comes first: the egg or the chicken. That’s the situation.
NerdWallet: This sounds like larger banks that are well-established and not just geared to startups will be more resilient to failure.
Fadel Lawandy – I cannot stress enough the importance of diversification in their client base. If you are big, it means you can diversify your client base. All your clients have different needs. One group might need more cash while another group might be looking to save money. Diversification is a way to diversify their clients, loans, and investments. This reduces exposure to clients who are only interested in certain services.
FDIC [Federal Deposit Insurance Corporation] insurance will cover up to $250,000 for your bank deposits. The federal government guarantees that any money you have with a bank up to $250,000 is protected in the event that it goes bankrupt.
NerdWallet – What about community banks or credit unions? Are they protected in the same way?
Fadel Lawandy – Credit unions do not have large ventures that burn through millions of dollars per month. These banks that cater to individuals are very different from those that cater to businesses.
It all depends on the purpose of smaller banks. There is always risk when you have money with institutions, especially if it’s a regional or local bank that caters to new ventures or businesses.
There is sufficient regulation, including the liquidity requirements [enacted] in Dodd-Frank, and other laws that were passed after the 2008 financial crises, to ensure that things are secure. The Dodd-Frank Wall Street Reform and Consumer Protection Act was passed in 2010. Dodd-Frank, among other things, requires banks to hold a higher percentage as cash than they do when investing in bonds. ]