This week's news has been dominated by the crisis in banking and the second biggest banking failure in US history. If one had to point to the root of the current global banking crisis, it would be the "mismanagement of risk", fuelled by a significant dose of depositor and investor fear. This is the common denominator at all the banks that were and still are most impacted.
Silicon Valley Bank did not adequately hedge it's treasury bond and mortgage backed securities portfolio which had been purchased during the zero interest 2020-2021 environment, leaving it with significant growing unrealized losses as interest rates rose. Under normal banking and economic conditions this would not have been a significant risk. However under significant stress and difficult economic conditions with depositors withdrawing significant funds, the bank could be exposed to having to raise funds to meet withdrawal demands and in order to do that it would have to sell its bonds and mortgage backed securities at a significant loss.
Banks are meant to be in the business of managing risk and mitigating for exactly these types of scenarios. Instead of hedging that risk one must assume that it considered that risk to be an outlier. In either case, one would be right in questioning the judgement of management. As depositors withdrew funds, SVB had to sell its portfolio of bonds and mortgage backed securities for a loss of approximately $1.8bn. When SVB announced this fact to the market - a market that was already on edge - along with the need to raise additional capital, large Silicon Valley VC's began pulling their funds out of the bank which combined with dire messaging amplified through the megaphone of Twitter turned into a stampede. Over $40 billion dollars was withdrawn in 3 days causing the second largest banking failure in US history and new management - that is, the FDIC - to step in.
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