While the collapse of Silicon Valley Bank (“SVB”, Ticker: SIVB) may not suggest major solvency concerns in the US or wider global financial system, it does illustrate the extent to which other vulnerabilities may be lurking in the financial sector and strengthens the case for central banks to exercise caution as the knock-on effects of the Fed’s recent hawkishness become apparent. As the old saying goes, “it’s only when the tide goes out that you see who’s been swimming naked.” Though the specific impacts of such an aggressive tightening cycle are difficult to predict, they’re not altogether surprising, either.

At a strategic level, the Quantitative Easing (“QE”) rolled out during the pandemic created space in financial markets for vulnerabilities like these to emerge, and the Fed’s reversal of these policies on the heels of rising inflation ultimately punished those who flew too close to the sun. Fundamentally, SVB succumbed to poor risk management in holding long term bonds funded with demand deposits. Fortunately for its customers, Treasury Secretary Yellen and the FDIC’s decision to guarantee all deposits at SVB and Signature bank will help spare those left vulnerable to the banks’ recklessness. On the other side of the coin, the Fed’s new lending facility (the Bank Term Lending Program (“BTLP”)) will assist banks that encounter similar liquidity problems, providing 12-month loans against assets that qualify based on their par (rather than marked to market) values, ensuring access for institutions sitting on unrealized losses in their held-to-maturity security portfolios.

Fortunately, it seems the direct contagion from SVB’s collapse will be relatively limited. The US banking system as a whole is better capitalized than in ’07-’09, and institutions should largely be better able to withstand losses on the asset side of their balance sheet, even without the insurance offered by the BTLP. Nevertheless, on the liability side, a collapse in counter-party confidence and a widespread deposit flight may cause interbank lending markets to freeze. Moreover, the collapse of SVB and Signature Bank have, on their own, placed countless small businesses and venture capital funds in jeopardy, and the consequences of this cannot be ignored altogether.

SVB held a unique position in the Silicon Valley Community. Chartered in California around twenty years ago, SVB was the bank for small tech startups and the venture capital funds that invested in them. When larger banks turned away, SVB provided these start-ups with lines of credit to grow their businesses, taking on pre-IPO equity shares as collateral. In return, SVB took a low rate and warrants on the founders’ shares. Unfortunately, this illiquid collateral and the concentration of risk in the tech space culminated in the bank’s recent collapse, as customers withdrew more than $45 billion in the last week alone.

At YE 2022, SVB reported $209B of assets and $175B of deposits. It had a strong loan-to-deposit ratio with a concentrated loan mix and strong capital position. SVB distinguished itself as the leading bank in servicing the venture capital industry, claiming 50% market share of venture-backed companies’ deposits, and probably banked a comparable share of venture capital funds. As of last Monday, March 6th, SVB had an equity market capitalization of $16B.

After the market closed on Wednesday, March 8^th, SVB filed an 8-K that indicated it had sold $21B of its marketable securities, realizing a $1.8B loss, to create liquidity in response to the high volume of withdrawals. It also announced that it was bringing to market an offering for $2.25B of securities to support its regulatory capital. Further, it assured cli