It goes without saying that the big news in the financial world this week is the collapse of Silicon Valley Bank. However, the doctrine of ‘going without saying’ should not prevent us from providing further commentary – as long as we avoid boring our dear readers (you) by repeating all the points others have brought to the discussion. In this light we’d like make a point that, in contrast to conventional wisdom, creating a run on a bank may be much easier than one might think. It all relies on one thing: confidence.
The first vulnerability to be aware of is that bank depositors tend to believe something that just isn’t true: the money they put in the bank is not actually there. We want to think it is there because we like knowing where it is. And the last time we saw it, it was right there where we left it – in the bank.
An analogy I enjoy is how some children believe that their grandma lives at the airport. This makes perfect sense. After all, every time grandma comes to visit, the children’s parents have gone to the airport to get her. At the end of the visit, the parents take grandma back to the airport. So, it is reasonable to assume that she must just live there. However, what the children don’t know is that grandma has somehow gone out the other side of the airport and is on her way back to Dubuque, where she actually lives. This is what happens to the money you left at the bank. And, as we will see, it actually gets even more tricky.
A major concern for some of us is that there is no money. For the most part, the money we think we have is just a journal entry on a ledger. (Think about it. When was the last time you actually saw any of your money — let’s say, in amounts of over a couple hundred bucks?)
If you are now thinking, “Well, that’s OK because the bank can still give me back my deposited money, right?”. The answer is ‘yes’. But it is a conditional ‘yes’.
Once the bank has ‘your money’ aka ‘their deposits’, it quickly gets transformed into fractionally-reserve bank IOUs; when you see $10,000 in your account balance for example, that figure is not actually backed up by dollars. Noooo. Instead, that figure is backed up by a broad mix of less-liquid assets including Treasuries, mortgage loans, credit card loans, business loans, a bunch of other assets, and then a small percentage of actual dollars. Converting any of that back to ‘your cash’ will be a convenience that could not possibly be extended to ALL of the bank’s customers on demand. Interestingly, the Oscar for Best Picture just went to a film called Everything, Everywhere, All at Once – which is pretty close to what happened with Silicon Valley Bank.
Another wrinkle that played a supporting role to the SVB collapse has a note of irony: this was a high-tech event. An old-fashioned run-on-a-bank could not have happened with the light-speed of today’s bank runs. Back in ‘the day’, depositors who wanted their money had to actually queue up at the bank window. Today, most banking is electronic, which has many features including ‘instantaneously-from-anywhere’.
Since most of Silicon Valley Bank’s customers are tech-savvy IT companies and individuals they all had the capability to access their accounts through their smartphones. That — and Twitter, which was spreading the word of fear of collapse — provided the structure that allowed withdrawal demands of around 42 billion dollars in a single day. March 9, 2023. It was, as they say, a day that will live in infamy. At the close of business SVB was left with a negative balance of $958 million. Silicon Valley Bank was placed into FDIC receivership the following day.
Rather than leave you with what is arguably a scary story let me add that knowledge is our friend. Knowing how all these systems work — along with their vulnerabilities – is what helps us sleep well, which is something we strive to provide you with also.
Ron’s Market Minute — Fear and Greed………………. Again
As last week ended with rumors of potential bank problems in California a few commentators were alluding to possible similarities between current banking concerns and the 2008 crisis. A common point seemed to be the idea that when some catalyst generates fear, investors tend to sell first and ask questions later. No one should be surprised by this: investors, being humans, are not exempt from fight or flight response mechanisms.
Although we believed that the Fed would step in to calm fears, the selling kicked in on Monday and selling brings lower prices. Here in our shop, we had a small exposure to financial assets (no regional banks, though) which was quickly and substantially reduced in our models.
As the day and the week progressed, we saw two competing forces: first that fears of bank problems would continue to lower stock prices, and then later that hope of inflation slowing faster than expected could lead to strength in the tech sector.
As expectations of future costs (of money) appeared to be decreasing at a faster rate, enough investors apparently believed that the lower overhead could once again lead to more profits for the sector, and thus to more growth and corresponding higher prices. And we saw money once again flowing into the tech sector by midweek. (And some pricing in the tech sector began to rebound.)
So, as I write this (Friday Morning at 8 am) it is our belief that the financial world has assuaged much of the fear of a large-scale banking collapse. Our view has (for a long time) been that a rising rate environment would cause something to ‘break’. We, like much of the rest of the community, had not considered the possibility of the fastest rise in rates in modern times coming into the equation. And with the fastest rise, the fastest potential for that break to occur. Once again, it is my belief that the Fed acted too late, and also too strongly once it finally did act. That being said, we do not have any direct exposure to Silicon Valley Bank, nor do we have any regional bank exposure in any of our model strategies. We remain very conservatively positioned and are waiting for the weight of the evidence to determine our next steps.
As always, we view diversification as a valuable strategy, particularly as it comes to assets with low or negative correlation to traditional equities.
The largest index* – the S&P 500 has more exposure to the financial sector than the other major indexes, and it is currently somewhat unclear as to direction. As the picture becomes clearer, we will again be looking for the areas of potential strength. Lower interest rates are generally good for the investing industry, and we expect this to show up in higher stock prices later in the year.
Ronald P. Denk, CFP®
Investment Advisor
Denk Strategic Wealth Partners
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Phoenix, AZ 85051
Phone (602) 252-8700
Fax (602) 252-8701
Toll-Free (877) The-Denk
www.denkinvest.com
LFS-5520113-031723
*The indices are representative of domestic markets and include the average performance of groups of widely held common stocks. Individuals cannot invest directly in any index and unlike investments, indices do not incur management fees, charges, or expenses, therefore specific index returns will be higher. Past performance is not indicative of future results.
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