When Silicon Valley Bank collapsed, it became the second-largest bank failure in American history after Washington Mutual in 2008.
The failure sent shockwaves through the finance and technology industries, and led to panic about potential contagion.
But how did we get here? First – the basics. Silicon Valley Bank was a commercial bank in Santa Clara, California part of an area long-referred to as Silicon Valley. It was the nation’s sixteenth largest bank.
Like any other bank, it operated by taking a portion of deposits and creating loans, like mortgages for other clients, and charging interest on them to make money.
"You can't have everyone taking their deposits out at one time because they have much more than 100% of the deposits lined up and loaned out," said Rhys Williams, chief strategist at Spouting Rock Asset Management.
But that’s exactly what happened.
This system only works when there are enough deposits in the bank. And in March, SVB started bleeding cash quickly, causing a scenario called a bank run — sparked when too many customers withdraw money at the same time.
So what caused this bank run?
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Many SVB customers worked in the tech industry – which has been going through a rough patch ever since the Federal Reserve began raising interest rates. Last week SVB said it needed to raise $2.25 billion due to its bond portfolio value dropping because of higher rates. That spooked depositors, who rushed to withdraw their money.
Before the Fed started those hikes, rates were low or near zero since the 2008 recession. Those low interest rates meant more venture capital money flowed into startups, so many didn't need loans from banks — meaning banks like SVB had to make money another way.
"They actually appeared to mostly buy U.S. treasuries. So, they had very little credit risk because the U.S. Treasury will pay. But, they bought a lot of bonds when interest rates were, you know, one and a half, 1.7% and 1.6% when, you know, the Fed raised rates very aggressively. And it appears they didn't seem to hedge well, the potential for those bonds to lose value," Williams said.
Because so much of the bank’s clientele was concentrated in tech, the run on the bank happened fast.
The Federal Deposit Insurance Corporation, or FDIC, is there to protect deposits placed in regulated banks. Typically it insures up to $250,000 per depositor. But because many of the bank’s clients were businesses, they exceeded the amount. Days later, the government stepped in to protect insured depositors past that limit.
The move may have quelled fears of further contagion, but it came after Signature Bank in New York was also taken over by the FDIC. And shortly before, Silvergate Bank in California announced it would shut down.
But, for now, at least one expert says it’s unclear whether this is a long-term trend to worry about.
"This could be gone in a nonissue in two weeks, or we could be on the precipice of something much larger. It's just too early to tell," said Shaun Davies, associate professor of finance at the University of Colorado Boulder.
