• Interest rate risk and risk management practices contribute to largest bank failure since 2008, signaling challenges for other regional banks.
• Banking regulators will likely evaluate new regulatory requirements around asset quality management and liquidity controls.
• Banks must ensure their risk management and operational resilience plans adequately address interest rate risk and potential decrease in asset quality.

Last week, the California Department of Financial Protection and Innovation (DFPI) shut down Silicon Valley Bank (SVB) and appointed the Federal Deposit Insurance Corporation (FDIC) its receiver. Notably, the regulators took the unprecedented step of shutting the bank down during a business day rather than waiting until close of business on a Friday as is customary.

Silicon Valley Bank was the 16th largest bank in the United States[i] and banked 50 percent of the country’s venture-backed technology companies.[ii] The Santa Clara-based bank primarily catered to technology and life science companies, start-ups, and venture capital funds and had experienced dramatic growth in the past two years. SVB’s total deposits rose 86 percent during 2021 to $189 billion before peaking at $198 billion in the first quarter of 2022.[iii]

Earlier this year, Patomak highlighted the risk of rising interest rates adversely affecting bank investment portfolios. While interest rate risk is affecting the banking industry broadly, SVB had greater exposure than most of its peers. In an investor filing, SVB indicated that at the end of 2022, 55 percent of its assets were invested in fixed income securities, which is considerably higher than the industry average.[iv] On March 8, SVB posted a press release announcing a $1.8 billion loss on the sale of securities and that the bank would seek to raise $2.25 billion in capital, though it did not provide significant detail regarding what led to the losses.[v] Despite pleas from SVB CEO Greg Becker to remain calm, depositors rushed to withdraw funds for two days. On March 10, the DFPI shut down SVB, marking the largest U.S. bank failure since 2008.

Concern Spreads and the Regulatory Response

Concern quickly spread regarding other regional banks, particularly those similarly exposed to the technology sector. On Sunday March 12, New York’s Signature Bank failed. First Republic Bank also faced increasing pressure and on March 12 announced it had secured additional liquidity from JPMorgan Chase. The following day, pressures continued with First Republic’s stock falling more than 60 percent along with Western Alliance Bancorp, Regions Financial, and PacWest Bancorp also seeing stock prices fall on March 13.

In the initial response to SVB, Treasury Secretary Janet Yellen insisted the government would not bail out the bank. She, along with the Federal Reserve and the FDIC faced pressure from lawmakers and industry groups to resolve the bank in a manner that would instill confidence among depositors and in the broader system.[vi]

Ultimately, on March 12, based on recommendations from the Fed and the FDIC, Treasury reversed course and approved a “systemic risk exception” for Silicon Valley Bank and a similar exception for Signature Bank of New York.[vii] As a result of their actions, SVB and Signature Bank would be resolved in a manner that would prevent all depositors from losing funds, insured and uninsured.

Furthermore, the Fed announced it would establish a new lending facility—the Bank Term Funding Program (BTFP)—that “will be an additional source of liquidity against high-quality securities, eliminating an institution’s need to quickly sell those securities in times of stress,” and protecting banks from potential unrealized losses in those portfolios. [viii] The BTFP will offer loans to federally insured depository institutions that provide U.S. Treasuries and mortgage-backed securities as collateral and will value the assets at par.

Regulators Evaluating Changes

On March 13, the Federal Reserve announced that Vice Chair for Supervision Michael Barr will lead a review of the of the Federal Reserve’s supervision and regulation of SVB, which is intended to be released by May 1.[ix] Barr is concurrently conducting a review of bank capital requirements and has suggested that the requirements may be insufficient. The SVB collapse likely will encourage Barr and other prudential regulators to examine more stringent requirements regarding asset quality management and liquidity.

Additionally, President Biden as well as Senator Elizabeth Warren and other Democratic lawmakers are calling on policy makers to revisit bipartisan legislation passed in 2018 that rebalanced certain aspects of the Dodd-Frank Act and its capital requirements for mid-sized banks.[x]

Better Bank Communication and a Focus on Fundamentals

House Financial Services Committee Chairman Patrick McHenry (R-NC) characterized the SVB failure as “the first Twitter fueled bank run.”[xi] Following, SVB’s March 8 announcement that it had sold a portion of its available for sale securities portfolio for a $1.8 billion loss caused concern amongst its investors, the SVB CEO reportedly told a group of investors on a call, “[SVB has] ample liquidity to support our clients with one exception: If everyone is telling each other SVB is in trouble, that would be a challenge,” and asked them to “stay calm.”[xii] In hindsight, such investor relations communications should be more thoughtful.

While the March 8 announcement also contained a description of an upcoming share offering in technical language, this language did not reassure SVB’s tech-forward investor and customer base, who may have appreciated a more thoughtfully constructed description of the bank’s capital and liquidity strategy moving forward. Other banks should consider better ways to communicate their business strategies that also meet all expectations and regulatory obligations regarding such communication. In light of the increasing speed in which money can move such missteps can amplify other risks and their impact on a bank.

The SVB failure also underscores the need for banks to ensure they do not lose focus on fundamentals. While federal regulators faced a strong pressure campaign from the tech community and members of Congress to reassure depositors, other banks cannot assume that they will receive the same treatment in the event of a crisis. Banks must review and evaluate asset quality as well as ensure risk management regarding interest rate risk and long-term funding is in place.

As banks conduct these reviews in the wake of the SVB failure, they should not lose sight of standard operational and compliance risks. Key areas of concentration should be continued attention to BSA/AML controls and consumer compliance as regulators continue to scrutinize banks in these areas.

Put Patomak’s Banking Expertise to Work

Patomak has deep experience in helping banks and other financial institutions manage risks and respond to developments in regulation and markets. Contact us to learn how Patomak can help you navigate these challenges and help you meet your business goals.

 

[i]  Federal Reserve Statistical Release (Dec. 31, 2022)

[ii] Silicon Valley Bank

[iii] Jonathan Weil and Ben Eisen, Banks Lose Billions in Value After Tech Lender SVB Stumbles (Mar. 9, 2023)

[iv] SVB Strategic Actions Q1 23 Mid-Quarter Update (Mar. 8, 2023)

[v] SVB Financial Group, SVB Financial Group Announces Proposed Offerings of Common Stock and Mandatory Convertible Preferred Stock (Mar. 8, 2023)

[vi] Josh Gottheimer, Members of Congress Urge U.S. Financial Regulators and Treasury Department to Act Swiftly After Silicon Valley Bank Collapse; Sam Sutton, Lawmakers press regulators to resolve bank blow-up (Mar. 12, 2023)

[vii] Joint Statement by the Department of the Treasury, Federal Reserve, and FDIC (Mar. 12, 2023)

[viii] Federal Reserve Board, Federal Reserve Board announces BTFP (Mar. 12, 2023)

[ix] Federal Reserve Board, Federal Reserve Board announces that review of supervision and regulation of SVB (Mar. 13, 2023)

[x] Elizabeth Warren, Silicon Valley Bank Is Gone. Its Executives Must be Held Accountable and Washington Must Act to Prevent the Next Crisis (Mar. 13, 2023); The White House, Remarks by President Biden on Maintaining a Resilient Banking System and Protecting our Historic Economic Recovery (Mar. 13, 2023)

[xi] Patrick McHenry, McHenry Statement on Regulator Actions Regarding Silicon Valley Bank (Mar. 12, 2023)

[xii] Anna Hrushka, Regulators take over Silicon Valley Bank (Mar. 10, 2023)