The recent failure of Silicon Valley Bank (SVB) has led to a number of questions about the bank. While the situation remains fluid, here we answer some common questions about what happened, how deposits are insured and about the strength of Northwestern Mutual.
What is a bank run and why did Silicon Valley Bank fail?
One of the ways a bank makes money is by investing a portion of deposits it receives from customers. This could be in the form of loans made to other customers, but banks will also invest in other ways, including in high-quality bonds and U.S. Treasurys.
While SVB followed the traditional playbook for banks managing deposits, it faced two challenges that, when combined, proved to be too much for the bank to withstand.
First, the majority of the bank’s deposits were tied to venture capital firms, private equity and information technology companies. This concentrated deposit base heightened the risk of large deposit outflows if the primary industry SVB served were to face challenging market conditions. As a result, when venture funding dried up as interest rates began to rise last year, the firms that had their deposits with Silicon Valley began to withdraw money.
Secondly, Silicon Valley Bank invested in long-term bonds. Although the bonds were high quality, they decreased in value as interest rates increased throughout the year. While the bonds would have eventually regained their value if the bank had continued to hold them, as depositors began to pull their money, the bank was forced to sell some of these bonds at a loss in order to cover withdrawals. In addition, the company announced that it would sell $2.25 billion in new shares to stabilize its balance sheet, leading to panic from venture capital firms who advised companies to withdraw funds from the bank. As depositors became increasingly concerned about Silicon Valley’s ability to meet withdrawals due to its need to sell bonds at a loss, more people began to withdraw money, which exacerbated the problem. This created what’s commonly referred to as a bank run, where more and more people lost confidence in the bank and withdrew their money. That, in turn led to Silicon Valley closing its doors on March 10, and regulators taking control of the organization.
Will this lead to other banks failing?
Last weekend, regulators also took over Signature Bank in New York. While it’s possible a few other smaller banks with focused clientele or mismatched time horizons between deposits and assets may fail, as a whole, we do not believe the U.S. banking system has widespread issues pertaining to liquidity, capital position or financial soundness. Larger, more diversified financial institutions are heavily regulated and financially strong, and they have undergone stress testing for years following the Great Financial Crisis.
Is my money safe in a bank right now?
Deposits with a balance of up to $250,000 per account holder per Federal Deposit Insurance Corporation (FDIC)-insured financial institution are guaranteed by the government. As a result, customers at Silicon Valley as well as any other FDIC insured institution can rest assured that their deposits up to that amount are safe. The National Credit Union Association offers identical coverage for deposits held in insured credit unions.
Furthermore, the Department of Treasury, Federal Reserve and FDIC announced late Sunday evening that all Silicon Valley Bank depositors will be protected and will have access to their money going forward. Shareholders and certain unsecured debtholders will not be protected. The government has said that no losses associated with resolution will be borne by the taxpayer. A similar resolution was announced by New York regulators late Sunday evening for Signature Bank.
Are there any similarities between this and the failure of Lehman Brothers in 2008? Is a financial crisis looming?
There are key differences between the failure of Silicon Valley and that of Lehman Brothers during the Great Financial Crisis.
Unlike Lehman Brothers, Silicon Valley is a relatively small bank that caters to a highly specific industry. As such, its failure, while potentially painful for equity and bond holders of the company, is likely to have limited impact on a broad scale.
Additionally, the government bonds that Silicon Valley held are still high-quality, and there aren’t concerns that the U.S. government will default on them. During the Great Financial Crisis, Lehman owned a significant number of mortgage-backed securities that included many loans to borrowers with poor credit scores. As the real estate market faltered, many borrowers defaulted on the loans, creating permanent loss of principal for those bonds. Given the high-quality nature of SVB’s bond portfolio, regulators will be able to “backstop” deposits at the bank with the knowledge that they will receive the full proceeds of the bonds at maturity.
Do I need to worry about my investments?
There will always be a seemingly compelling reason to sell out of the market or to try to time your entry point back into stocks, but history has shown that investors who have stayed invested have been rewarded.
A strong financial plan is diversified to account for both risks and opportunities — including the risk of significant losses in an investment in a single company or even a sector of the market.
A plan is also built to be flexible so that it can change over time. This flexibility can help you deal with unexpected events. If you have a solid plan, you should feel confident that you’re on track — despite what may be happening in the market.
Respecting, not fearing, volatility can help you maintain the investment discipline needed to reach your financial goals. A comprehensive financial plan constructed to your risk tolerance and time horizon can help you weather the unexpected.
Should I be concerned about Northwestern Mutual?
Northwestern Mutual CEO John Schlifske recently sent an email to clients addressing the financial strength of the company. You can see a copy of the email here.
The opinions expressed are those of Northwestern Mutual as of the date stated on this material and are subject to change. There is no guarantee that the forecasts made will come to pass.
No investment strategy can guarantee a profit or protect against a loss.