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Silicon Valley Bank Collapse: The risk of a niche business



Silicon Valley Bank was the 16th largest bank in the United States at the time of its failure on March 9, 2022.

It gained fame in California as the banker to private equity and venture capital firms, specializing in tech and healthcare clients with deep connections and deep pockets.

Last Friday, Silicon Valley Bank became the biggest US lender to fail since 2008.

SVB in many ways represented a niche business.  The tailwind is the great referrals when the business is booming.  But then there is a downside; it magnifies a feedback loop when conditions reverse.

So when some customers heard that SVB was selling $21 billion of securities from its portfolio because some startups were ripping cash out of the bank, it raised an alarm bell and a run on the bank ensued until it collapsed on Friday morning. The California state watchdogs took possession of the bank and appointed the Federal Deposit Insurance Corp. as a receiver.

What led to the Run on Deposits? The shutdown and takeover of the bank by regulators can be traced to the Fed raising interest rates and risk-averse investors.

During the IPO and Special Purpose Acquisition Company boom, nearly half of all US venture capital-backed startups were involved with the bank.  SVB deposits ballooned. In 2022, it reported a profit of $3.4 billion, and $172 billion in deposits.

Just last week, the bank prides itself on being the best financial partner in the most challenging times, and a week later it fell apart

But it appears that SVB’s fate was sealed years ago.  During the height of the financial mania that swept across America when the pandemic hit.  US venture capital-backed companies raised $330 billion in 2021, almost doubling the previous record a year before.  SVB was swimming in money.  So it bought government bonds instead, which for the most part have fixed rates.

The Federal Reserve has been raising interest rates from their record-low levels since last year in its bid to fight inflation. As the Fed raised rates, the market for initial public offerings shut down for many startups and made private fundraising more costly.  Some of its clients started pulling money out to meet their liquidity needs.  This culminated in Silicon Valley Bank looking for ways to meet its customers’ withdrawals.

The immediate cause of the run was sparked by a letter that Silicon Valley Bank Chief Executive Officer sent to shareholders on Wednesday.  The bank had suffered a $1.8 billion loss on the sale of US treasurers and mortgage-backed securities and outlined a plan to raise $2.25 billion of capital to shore up its finances. More than half of the bank’s assets were in a bond portfolio, a setup that brought losses when rates rose.

Customers immediately tried to pull their money, including many venture-capital firms. Peter Thiel’s Founder Fund and other high-profile venture capital firms asked their portfolio companies to move their money out of SVB. According to the regulator, the withdrawals initiated by depositors and investors amounted to $42 billion on Thursday alone.

What is next?  The FDIC said insured deposits would be available on Monday morning.  But the vast majority of Silicon Valley Bank’s deposits were uninsured, a unique characteristic of the bank due to its customers being largely startups and wealthy tech workers.

The newly-formed entity has offered SVB employers 45 days of employment, after which the employees will be let go.

The Federal Deposit Insurance Corp is now aiming to find buyers for the firm’s various businesses to return as much of clients’ money as possible. There is no buyer, as no buyer has stepped forward.  But it appears   Elon Musk might be interested.  In a response to a suggestive tweet to buy the bank on his verified handle, Elon said “I’m open to the idea”

Impacts: Reportedly, publicly traded lenders that finance startup companies saw their shares drop on Friday, after the collapse of SVB on concerns over access to funding for some tech firms.