Why did SVB go down? What next?

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SVB Signature Silvergate

SVB, Signature, and Silvergate went down for different reasons:

SVB’s demise in a nutshell in 6 points: 

*1) Basic Bank Math:*

Banks take deposits and use them to make loans. 
The delta between interest on loans and interest paid to depositors is the ‘net interest margin’ (“NIM”) – the core metric of bank profitability.
And the delta between assets and liabilities is the bank’s equity – the core metric of bank safety. 
To generate positive NIM, banks make long-term loans at higher rates than they pay on deposits. 

*2) Bank Math at SVB:*

Before the issues, SVB held $212B of assets against $200B of liabilities – a paper equity cushion of $12B (5.6% of assets).
The assets fall into 3 buckets: 
#1: Mortgage-backed securities: $82B (83% residential)
#2: Direct loans: $74B (55% short-term loans to VCs & PE)
#3: Liquid assets: $55B

The liabilities fall into 2 buckets:
#1: Deposits: $174B (~11% FDIC insured)
#2: Other debt & pref: $25B

*3) What happened?*

The Fed raised rates, making all long-term debt decline in value.
Including SVB’s assets.
But accounting rules let SVB book mortgage securities as “held-to-maturity” (HTM), avoiding a hit to book equity. 
In a December footnote, however, it disclosed the HTM book had $15B of “unrealized” (i.e., off-book) losses.
So even then, losses had wiped out the $12B equity cushion.

*4) What catalyzed the run?*

The wipeout of the bank’s tangible equity cushion was concerning.
But the losses were visible to anyone watching SVB closely. 
So what changed? 

SVB announced Wednesday it had sold $21B of liquid assets (from bucket #3) at a 9% loss and would raise money to cover the loss.
That concerned investors a bit – more significant losses than expected and a poor NIM outlook. 
But, more significantly, it spooked depositors (and their VC investors).

*5) Bank run*

The next day (Thursday), depositors attempted to withdraw $42B from the bank, of which math implies ~$16B succeeded. 
Leaving the bank with negative ~$1B of cash when the FDIC took over Friday.

*6) Simplistic recovery math*

The balance sheet is pretty straightforward, given how rapid the event was. 
The starting point is ~$10B of paper equity ($12B minus the $2B recognized AFS loss). 
The range of HTM & other book loss is $20-40B based on the unrealized loss at Dec, the loss on the sale of the AFS book, and market moves.
On net, that impairs assets by $10-30B against a deposit & debt base of ~$162B (deposits of $168B minus the $16B deposit outflow and ~$10B of FDIC-insured deposits, plus ~$20B of other debt).

Add in liquidation cost, which implies a 5-20% loss range on remaining deposits.

Someone smart came up with the dissecting of the balance sheet, and the Investors will spend time putting a finer point on this tomorrow and thereafter. The asset of SVB might be a good buy for banks like JPM. Signature and Silvergate a different issues. Their issues are more related to crypto exposure.

The backstop of the $25 B plan put in by the government is a big deal and should help shore up the banks and the market sentiment. However, the market is now probably in a different kind of turbulent water.

This is not a Bailout! It helps the depositors get their funds out, and investors would need to make deals with the buyers of the assets to recuperate funds.

  1. VCs are now tepid with new investments.
  2. Neo Banks and fintechs are entering a downcycle. Raising new rounds would be difficult.
  3. Seed companies may need to have more unpriced SAFEs than priced rounds.
  4. Growth companies may face some headwinds but not be affected as much.
  5. Series B onwards will probably face significant headwinds.

Credit: CNBC, Pitchbook, Rick F Wallace, Axios,  Harvard PE VC group

Vineet Katial
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