Understanding the detail behind the headlines about banks

With much news over the last week about the collapse of Silicon Valley Bank and discussion around Credit Suisse, it is important to understand what has happened, and what it means for investors, for your savings and the broader economy.

One of the reasons this event has caught so much attention is that the 2008 financial crisis is still fresh in many of our minds, and the Silicon Valley Bank capitulation and rescue was the first substantial bank collapse since 2008. This most recent event though, is very different from the collapses that triggered the 2008 crisis.

What happened to SVB?

The bank suffered a 60% drop in its share price before the US regulator stepped in to secure the assets of the bank and protect all customers’ funds. This was done through a lending facility and the banking consumer protection scheme and was not a bail out.

The drop was triggered because it had to sell government bonds it was holding to cover larger than expected withdrawals from customers. But because of recent interest rate rises, these bonds had to be sold at a loss. This left the bank with a shortfall. 

Who were its customers?

The answer to this question also addresses why it was somewhat unique. SVB was not a typical retail bank with regular retail customers. Its core customer base was tech start up firms, and their investors. The bank was heavily exposed to the tech sector. This resulted in the sudden demand for withdrawals as the tech industry discussed their cash needs online and when one firm decided to withdraw funds, others quickly followed.

What does it mean for investors?

In the short term, expect volatility in the tech sector and in banking and financial stocks. We have seen volatility in both these parts of the market this week.

That means if you are holding shares in technology stocks- for some of you this will include shares you have acquired through employer share schemes- you may see the prices fall in the coming weeks until balance is restored to the sector. You need to factor in this short term movement if you are considering selling your vested shares or entering the window to exercise your options.

Volatility in the banking sector is mostly defensiveness, in protecting against what is called contagion risk. That means the concern the issues that caused the failure of SVB weren’t related just to the bank, but also to the broader banking sector, meaning more banks could follow. We have seen the largest banks benefit from this concern this week as the biggest banks in the US, like Bank of America had very large inflows as people moved their cash from smaller banks to larger banks. This could mean otherwise healthy small banks are put under pressure if the ‘flight to quality’ to big banks gathers pace.

If you have money in banks in other countries, it is wise to be aware of the bank deposit protection regulations in the countries where your accounts are located. In the EU, the bank deposit protection is €100,000 per customer per bank. Investment protections in the EU are €20,000 per investor against fraud or failure.

Why is it different from 2008?

One of the best summaries of what happened in 2008 can be found in an arguably more entertaining format than this article, in the film, The Big Short. The primary difference is that, in 2008, the financial market collapse was driven by institutions packaging up higher risk mortgages into investments that institutions would then bundle again and leverage against. When people commenced defaulting on their mortgages, the value in these packaged up ‘derivatives’ dropped to less than zero, ultimately wiping out billions of dollars in value from their balance sheets.

In summary, poor practices, and investment structures based on greed rather than sound financial fundamentals, were the catalyst of the 2008 market collapse.

This is not the case now. It was mostly a liquidity issue and in part influenced by the change from 15 years of near zero interest rates to a year of sharp interest rate increases resulting from the sudden return of inflation.

Since 2008, financial regulators in the EU, the US, UK and around the world have substantially raised standards, capital requirements, and expectations for banks and financial institutions to ensure they have adequate capital reserves to avoid a repeat of 2008. This will not eliminate risk, but it should reduce it.

For the most part, the biggest banks – those most likely to cause a systemic economic issue – have healthy balance sheets and plenty of capital. We have seen many of these banks taking steps to reassure the market of such this week.

And what about Credit Suisse?

Credit Suisse, the 16th largest bank in Europe, suffered extreme stock market devaluation this week and accepted a loan from the Swiss central bank to ensure it could continue operating. Its rapid devaluation was triggered in in part as a result of a statement by its largest shareholder. When asked, the shareholder, the Saudi National Bank, stated it would definitely not provide more capital to support the bank. This was interpreted as a lack of confidence in the bank. In reality though, as the investor explained, they hold 9.8% of the shares in Credit Suisse, and regulator limitations mean they cannot own more than 10% without substantial changes and regulatory impacts, meaning they were not in apposition to acquire more shares.

To see a large European bank teeter like this is a warning for other institutions and this will likely lead to banks re-evaluating their risk exposure and further strengthening balance sheets. If you are invested in, or working for, a small company, it could mean that company will find it harder and or expensive to borrow money.

Credit Suisse is, like SVB, not a standard retail bank. It mostly serves higher net worth individuals and is considered to be a private bank and an asset manager. There have been no concerns that account holders’ funds are at risk, but investors with money at the bank are being cautious. Those working in the financial sector have not been surprised by Credit Suisse this week as it has been in the financial news for several months.  Black Swan Capital does not have any client funds at Credit Suisse.

Events like these in the past week, should not be ignored, or brushed off. They are important reminders of the importance of strong regulations designed to protect consumers and their funds.

It is also a reminder of the importance of vigilance, of knowing where your money is invested, the strength of these institutions and the protections available to you.

It is a catalyst that should remind us to focus on our main objectives when making financial decisions, and finally, it is a reminder of the importance of obtaining professional advice.

If you have concerns about these events or would like to speak with a professional about your financial situation, contact us at info@blackswancapital.eu and we will be happy to speak with you.