What you should know about the SVB collapse – my premium members were warned

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As I am publishing this Weekly, already a week has passed after the collapse of not just one bank dealing with startups – that was the 16th largest bank in the US – but indeed three banks. After emotions calmed down a bit, we can have a look at what went wrong and what you should be aware of. My Premium Members already knew about the risks “hidden” on the balance sheets of banks, as I’ve closed an investment case on a profit a month ago due to these risks. And no, this is not a buy-the-dip occasion!

Summary and key takeaways from today’s Weekly
– Banking is a business that depends on credibility, trust and confidence.
– If customers pull their deposits, things can get really sour – especially if the bank invested too big parts into the wrong types of assets.
– I showed you why the Silicon Valley Bank collapsed with a deep dive into their balance sheet. Hopefully, this helps you to check your banking investments – should you be among such risk-seeking investors.

While the collapse of the SVB Financial Group (ISIN: US78486Q1013, Ticker: SIVB) – better known from the news as the “Silicon Valley Bank” which is a division of SIVB whose main business was with startups – should have reached already everyone, in fact there were three banks that went under.

The other two were Silvergate Capital (ISIN: US82837P4081, Ticker: SI) – a crypto lender that went into voluntary liquidation on Thursday, 09 March 2023, i.e. one day before the Friday sell-off – as well as Signature Bank (ISIN: US82669G1040, Ticker: SBNY) – a commercial bank that seems to have also been involved in the crypto business.

The Federal Deposit Insurance Corp. (FDIC) has taken control of both, the SVB and the Signature Bank. Trading of their stocks has been suspended. They have been put under regulatory supervision to be saved. But SIVB is officially insolvent as too many deposits have ben withdrawn from the bank.

The failure of SVB was the biggest banking collapse since 2008, after it unsuccessfully had tried to raise 2 bn. USD of fresh capital via an equity offering no one wanted to buy. This set in in motion cascading effects that culminated in a panic. On Friday 10 March 2023, trading was stopped.

That’s the rough overview. You will likely have heard more from the headlines.

But what has happened – and what to expect next?

Photo by Pixabay on Pixabay.com

The good news is that the failure of these three financial institutions so far hasn’t led to a contagion where other banks were directly involved. Those failed banks all dealt with tech companies, startups and / or something with crypto.

That was likely the reason, this hasn’t spread so far over the whole banking system.

Sure, many banking stocks, but especially smaller and regional financial institutions, suffered brutal declines – the most prominent was the First Republic Bank (ISIN: US33616C1009, Ticker: FRC) whose stock crashed heavily with more than 80% from top to bottom.

But there haven’t been direct casualties due to the events of the last days.

Time to start bottom fishing because everything is under control? Not so fast! You should really understand what was behind the collapse. My gut feeling (and analysis of the matter) tells me that we now have some time to take a deep breath, but there’s more to come. The events of 2008 likewise didn’t happen just on a single day or two.

In this Weekly, I’ll explain everything you need to know.

I’ll show you the final update my Premium Members received a month ago that led me to close my investment case of a bank. I saw big problems on the balance sheet – and this was one of the seemingly stronger banks.

For the purpose of reengineering what went wrong, to explain the structural deficits and where the dangers are still “hiding” on the balance sheets, I am going to show you the information that my Premium Members received exclusively a month ago.

It pays to be a Premium Member! If you haven’t done already, please consider to become one. Feel free to check my overview of the reports I have already published.

You can preview my so far published exclusive reports by clicking here.
Get access to my Premium Member’s Area with a sign up by clicking here.

Structural reasons for the problems

You will likely have heard the most common explanation for the disaster that a bank run (which today can also happen digitally with a few clicks) was occurring and the Silicon Valley Bank was about to dry up on vanishing liquidity – which finally happened.

This doesn’t occur without a reason, though.

There has to be a massive loss in confidence, likely also by spreading fears and rumors. This mix suddenly tilts confidence into panic and the rest is a self-fulfilling prophecy.

In the end, it doesn’t matter whether true or not.

If too much deposits are withdrawn too quickly, a bank fails due to becoming insolvent, as most of the deposits are not held as lying-around and liquid cash, but invested either in loans or in other assets. Both shall produce returns, but unfortunately they are more slow-moving, even up to multi-year long durations.

All these assets cannot be converted back to cash with the wimp of an eye.

The reason for this calamity in the case of SIVB is two-fold:

  • a big cash-burning clientele in a region where the tech-boom is over for now, including lower company valuations, less funding or at strikter conditions, paired with massive job cuts and a cooling housing market
  • the investment portfolio of the bank which was investing unusually high shares of its customers’ deposits into interest bearing assets and then the type of the investments themselves, paired with certain accounting rules

Here is a description of their business from the latest annual report:

source: SIVB, annual report 2022, p. 6 (see here)

And here from the risk section an important passage:

source: SIVB, annual report 2022, p. 19 (see here)

This alone is not the problem, although this business model involves higher risks than servicing strong and mature companies.

But now we get down to the nitty gritty.

What I haven’t read anywhere else is that 92% (!) of the loans the bank has given to borrowers have variable interest rates. A great idea, in the case of strong customers that will repay their borrowings with then higher interest rates.

A shot in the own head, if not…

This was also one of the reasons for me to publish a research report for my Premium Members about a bank that also was set to benefit from rising interest rates, however, with a clientele that mostly consists of high net worth individuals, not cash-burning entities and having way higher returns on capital. But more on that later.

Guess what happened?

The borrowers – in many cases not profitable or even liquid companies – suddenly and immediately faced massively higher costs on their debt. Although the duration of most of the loans isn’t long, as more than half of the variable loans has a maturity outstanding of less than a year, this already can kill companies that don’t generate a positive operating cash flow!

Not the duration was the problem, but the variable component!

It immediately increased expenses and thus cash burn, where appropriate.

source: SIVB, annual report 2022, p. 73 (see here)

So what happened in the last days prior to the events of last week?

Honestly, the first warning sign was already a year ago (!) – more on that later, but let’s look first at what happened two months prior with the earnings release on 19 Januar 2023 (see here, the outlook is on p. 11).

There, SIVB already issued an outlook and assumed that average deposit balances (the money parked at the bank) are expected to decline (!) and that net interest income (remember 92% variable?) is likely going to see a decline, either.

If interest rates don’t fall – there was no reason to bank on this back then – this could only mean that they expected less loans or even defaults. As to the deposits, the explanation is that cash-burning of the startups must have intensified.

No matter the reason, between 8 to 10 March 2023, the events turned upside down.

The situation at SIVB escalated when the rating agency Moody`s announced that it would lower SIVB’s credit rating on Wednesday, 08 March:

source: Moody’s (see here)

On the same day, to strengthen its balance sheet, the parent of the Silicon Valley Bank, SIVB, made an announcement – under pressure and not unlikely panicking – that caught many on the wrong foot and got the ball rolling. They announced

“Strategic actions to strengthen our financial position and enhance profitability and financial flexibility now and in the future”

that let the stock plunge by 35% in the aftermath.

source: SIVB, 8K market update, 08 March 2023 (see here)

SIVB said that they have sold on the open market a part of their investment portfolio.

Unfortunately, this part was 21 bn. USD of securities that due to the rising interest rate environment went under water and caused a 1.8 bn. USD loss for the bank, as the yield of these securities sold was only 1.79%, while the FED’s Fund Rate is close to 5%.

I’ll explain this in more detail, soon.

source: SIVB, 8K market update, 08 March 2023 (see here)

The resulting gap was to be filled in a second step by equity investors, who were to subscribe to new shares worth 2.25 billion dollars, preferably overnight from Wednesday to Thursday of last week.

Self-explanatory, the next day 9 March 2023, the stock tanked as these news were not well received.

The failed capital raise was more an attempt to strengthen the equity position and capital ratios of the balance sheet – i.e. to stabilize the bank from an accounting and regulatory perspective. This move would create a hit with next earnings results, due to the 1.8 bn. USD loss.

It was noch to boost liquidity (as the sale of the investments brought in 21 bn. USD).

After no one wanted to buy this new stock, SIVB suddenly tried to sell itself – a desperate move that only happens if there is more in the bush.

Only two days later, on 10 March 2023, the next downgrade came, this time to junk:

source: Moody’s (see here)

This “repositioning” of its balance sheet, together with the lowered guidance amid expected higher cash burn from their customers, was a shock that rattled the whole banking sector. It definitely came too late. Management should have done this already a year ago, as they certainly knew that the tech and startup businesses were cooling off.

What also happened in the background was a bank run. Deposits were withdrawn that were about to bring the bank finally to a collapse.

Then, it was put under supervision.

However, on the same Friday, 10 March 2023, the State of California – Department of Financial Protection and Innovation issued an “order taking possession of property and business” of the Silicon Valley Bank with the result:

source: State of California – Department of Financial Protection and Innovation (see here)

The core message is that the withdrawals by the depositors reached 42 bn. USD and effectively left the bank with a cash balance of negative nearly 1 bn. USD.

That’s an insolvency.

The bank run brought the bank to its knees. Before the collapse, SIVB had deposits of 173 bn. USD, at least as per the annual report per 31 December 2022.

source: SIVB, annual report 2022, p. 95 (see here)

This means more than 20% of deposits were withdrawn – in a matter of hours!

You also can see that pure liquid cash was only 13 bn. USD – less than 10% of the deposits were held in cash, which is not uncommon for a bank – but the system requires confidence. Together with the raised 21 bn. USD from the sale of its investments, liquidity should have been easily over 30 bn. USD – this was not enough to save the bank!

Why did customers pull their deposits?

There’s a high likelihood that due to having mainly commercial customers as well as high net worth individuals (think of rich tech founders), these deposits for the biggest part weren’t insured – the guarantee was up to 250k USD per customer. I’ve read that up to 95–97% of deposits weren’t insured by the FDIC’s 250k mark.

This lack of safety may likely have “motivated” many to take the aspect of safety into their own hands and to pull what is still left there.

But what caused the first credit downgrade of SIVB?

SIVB had invested far too high a proportion of its deposits held – into assets – as the next graphic shows:

source: SIVB, annual report 2022, p. 95 (see here)

They had 120 bn. USD invested – that was a ratio of 70% of the deposits or 57% of its total assets!

More common, however, are ratios of 20–30%, with 24% of total assets being the average:

source: S&P Global, FFIEC, Jefferies

Where was the money invested and why did it become a problem?

Particularly in long-term U.S. government bonds and even more so in long-term mortgage backed securities, which the management thought were a safe investment – as unfortunately many people who hate stocks do so – but now these investments are worth much less.

source: SIVB, annual report 2022, p. 64 (see here)

If someone tells you that stocks are risky, but bonds are great – don’t take this person seriously.

Why so?

Aren’t bonds and loans paid back fully anymore?

The reason lies in the now higher interest rate environment. It has caused such investments to suffer losses when valued at market prices. Until these investments are sold, the discounts exist only on paper, but they increase the banks’ risks, should they need liquidity in the short term.

If they need to sell some of these underwater-investments, they suffer real losses – with the corresponding consequences to the balance sheet strength and credit ratings.

And this is what happened with SIVB.

Their sale of the 21 bn. USD portfolio generated a real loss 1.8 bn. USD – that has to be subtracted from the equity position on the balance sheet. However, this was already known, as these assets were accounted at market value (I’ll explain the difference below in more detail).

SIVB likely could have even stomached this 1.8 bn. USD loss, as their equity position was 16 bn. USD per year’s end 2022.

Now comes the big but:

The bank had relatively atypical high amounts of fixed-rate and long-term investments on its books that were underwater, i.e. carrying unrealized losses, but not at market values, because they bought them when they were the most unattractive – and risky!

The only explanation can be that management assumed interest rates would stay low forever – something I have always been warning about, also before starting this blog.

But did they have to buy these bonds in the first place?

Well, the bank’s balance sheet has grown insanely during the late stages of the tech boom, as this Tweet shows (thanks!):

source: Twitter (see here)

Thus management was flush with deposits that had to be invested somewhere – however, likely not in that amount. But, unfortunately, management did serious mistakes, assuming that interest rates would stay low – otherwise they wouldn’t have acted this way.

The second but is that deposits already crumbled from the end of 2021 to the end of 2022. In the matter of a year – as the tech boom cooled off – deposits at Silicon Valley Bank dropped from 189 bn. USD to 173 bn. USD.

A drop of 16 bn. USD or 8.5% in just one year.

The businesses weren’t doing well anymore.

source: SIVB, annual report 2022, p. 95 (see here)

In the end, the bank committed suicide, as management violated a well-known, golden banking rule – I translated it from German to English (bold highlights by me – to be honest, I would need to mark the whole following text block bold):

The golden banking rule is a classic liquidity principle and concerns the financing of a company. It plays a major role for banks in particular, which is why it is also known as the golden banking or financing rule.

The basic idea of the rule is that assets (capital) raised in the short term may only be lent out for short-term borrowing.

Assets raised for the long term should provide customers with a long-term loan.

In this way, the so-called matching of maturities is maintained between the financing of the assets and between their investment.

Weltsparen.de (see here)

We have to change “loans” into “investments” and here we are.

Deposits are ultra short-term and insecure, while most of SIVB’s investments have been ultra long-term!

This alone – ignoring the duration mismatch – is pretty amateurish. But if the allegedly safe and secure gets flushed down the toilet – good night! This was clearly management’s fault – not the Fed’s, not climate change’s, not anyone else’s.

Especially the longer the maturity lies in the future, because higher rates now make a low-interest investment with a long duration relatively more unattractive.

To compensate for this “unattractiveness” (no one would buy it), prices of these assets have to decrease to balance the expected total return from interest income and capital gains.

But why was the market surprised, as this all seems logical and real losses have been low and easily covered by equity?

Let’s have a look back in history.

If you’re interest in more, have a look here, here and here.

Prior to the Financial Crisis of 2008–2009, banks had to disclose all their held assets – loans and investments – at market value (“marked to market”).

This is the same what Warren Buffett dislikes, but has to do since 2018 with his stock investments every quarter. Thus, his results swing back and forth, at times massively – however, the paper gains and losses don’t tell you anything about realized results – it’s just a snap of the moment how the equity investment are valued at market prices.

This is explained in more detail here.

This principle (marked to market) is said to have brought banks to their knees during the Financial Crisis back then, as many assets suffered big hits – even if the holder didn’t intend to sell them, but to hold them to maturity and receive the full price back.

However, there was fear that such assets could become worthless.

Hence, in the first half of 2009, these accounting rules were changed, to allow for more flexibility with the goal to create a more realistic picture. Especially, should such debt securities be held to maturity and paid back in full.

Photo by Pixabay on Pixabay.com

Instead of having to hold debt securities on their books at current market prices (marked to market or fair value), regulators allowed them to split their asset holdings into two components: 

  • Available for Sale (AFS), a part still to be marked to market, but which could be sold to increase liquidity – what SIVB did
  • Held to Maturity (HTM), a far larger part, not swappable (salable), but having the advantage of not to be needed to be accounted at market prices – instead these assets are allowed to be kept at historical costs, as they won’t be sold, but paid back in full when mature – they aren’t valued at market prices, but unrealized losses (if applicable), need to be disclosed in the notes

Higher interest rates cause AFS investments to fall in price, while HTM stay where they were bought for. What does not get distinguished at this point, is the duration. Both categories can contain short or long term investments.

So, SIVB sold its complete AFS portfolio last week.


Because management expected higher interest rates – maybe a little too late? – which would have caused this part of the portfolio to be marked down even more.

To prevent that, management intended to shore up its balance sheet and swap the AFS portfolio completely into a short-term bonds portfolio that has higher interest rates and a way lower fluctuation in price. Should interest rates drop again, they could even make capital gains again – if not held until maturity.

However, to pursue this, they needed the capital increase to fill the losses produced during this transformation – just to be sure. Again, more for regulatory purposes, not to raise liquidity, as there was no bank run expected.

Photo by Pixabay on Pixabay.com

If you look into the reports, you will see both categories for their investments. However, they need to disclose all paper losses, i.e. the current market value. It is a theoretical figure that does not get subtracted from equity.

It is called a “net unrealized loss”.

Until recently, no one cared about this. “A paper loss is not a loss”.

However, there’s no denying that with rising interest rates these “unrealized losses” started to rise. The longer the duration until maturity of an asset, the heavier the losses, because the less attractive they become compared to shorter-term investments.

And here comes SIVB into play again.

Although they didn’t have to subtract these losses from their HTM portfolio, their unrealized losses amounted to 15 bn. USD. What this means is that together with the “swap loss” of the AFS portfolio, SIVB would have effectively had no more equity!

Remember the 16 bn. USD equity from the balance sheet above?

source: SIVB, annual report 2022, p. 125 (see here)

And here is a nice overview that shows that SIVB – at least for now – was an extreme example (thanks again!):

source: Twitter (see here)

If you’d like to watch a good video on this matter, do so on the channel of ColdFusion clicking here.

As far as I understand this matter, it is debatable whether the rating downgrade was necessary. But, it was rather a pre-cautionary move, in the case should SIVB need to sell some of their HTM investments – then they would create real losses. And all, having the potential to eradicate equity completely, even without further mark-downs of their investments!

There were first cracks with sinking deposits as well as the overall cooled down environment in their clients’ base.

Effectively, the bank had no more equity.

One could also argue that the HTM portfolio was not going to be sold and thus the unrealized losses didn’t matter. In case they started to matter again. I think that is more or less the reasoning behind the downgrade.

The rest is history.

Now that you know what happened last week with Silicon Valley Bank and its parent, I want to show you the case I first introduced my Premium Members to, but then in February closed it – just in time on a +13.5% total return.

I have seen this problem, before. But, I didn’t know Silicon Valley Bank, because I am more skeptical about banks and never did I buy this “higher interest rates will propel banks higher” that was making rounds. My investment case was different and special.

No, higher interest rates, are a challenge for banks –those that are positioned wrongly.

A look back at my investment case

On 08 October 2022, I published my research report about the Bank of N.T. Butterfield & Son (ISIN: BMG0772R2087, Ticker: NTB).

The choice for this exotic bank was due to several reasons:

  • a strong customer base, mainly consisting of high net worth individuals that primarily diversify their assets into other regions
  • the loan portfolio had more than 60% variable loans –> clear beneficiary of rising interest rates immediately
  • operating in exotic markets like Cayman, Bermudas and Channel Islands where there was not much growth, but more safety and discretion
  • stronger balance sheet with more cash and better capital ratios, because in their markets, there is no central bank to bail them out
  • a > 5% dividend yield

So far, so great.

But, Butterfield likewise has big parts of its portfolio invested. In their case, it was more or less only US government bonds. In contrast to SIVB, NTB had 40% of their assets (SIVB: 57%) as well as 45% of the deposits (SIVB: 70%) put to work.

These were the numbers as per end of 2021. And they were both above the average of 20–30%. One year later, at the end of 2022, these numbers were stable at 40%, respectively 44%.

Out of the year’s end (2022) deposits of 12.9 bn. USD, cash on hand was 2.1 bn. USD plus 0.8 bn. USD in liquid short-term investments, let’s say 2.9 bn. USD. This is a coverage of 22.5%.

SIVB had a coverage of 8% at the end of 2022.

But where NTB cannot escape from, either, are the investments of 5.7 bn. USD, of which 2 bn. are held as AFS – marked to market.

source: NTB, annual report 2022, p. F-22 (see here)

Equity at the the end of 2022 was 0.8 bn. USD.

The 2 bn. USD in the AFS portfolio are clearly enough to put more pressure on this equity position and even wipe it out, should things get really sour. On the other hand you have the massively higher earnings thanks to the loan portfolio of mainly variable interest rates.

That was my basic thesis.

Of the HTM part (3.7 bn. USD), there were 0.5 bn. USD in unrealized losses. There is still some air to breathe, but the gap was narrowing from a year ago. To remind you, HTM isn’t subtracted from equity. But if a rating agency sees this as a risk – the lights could go out quickly, when panic sets in.

Indeed, there are still risks, as most of the whole portfolio (AFS and HTM) have maturities of more than a year (> 95%).

What is really confusing is the second-to-last column “no specific or single maturity”, were big parts (nearly half of AFS and all HTM) are invested. This is a factor of insecurity for me that I cannot calculate with.

There is enough room for the AFS portfolio to alone wipe out the equity – even if not very likely, the risk is theoretically there. The HTM part shouldn’t be a problem for now, as this bank has enough cash. But who knows?

Better safe than sorry!

source: Seeking Alpha, (see here)

Plus, even if everything goes well – which I assume, but I don’t want to challenge the luck – the bank will be handicapped in terms of their capital returns.

Although earnings have increased massively (+48% from 2020 to 2022), the dividend is only kept stable all the time. Management now announced a share buyback, but it remains to be seen whether they will be able to execute it or if the balance sheet will rather force a hard break. The share repurchase is optional.

Management bought some time.

The stock jumped somewhere between 15–20% with the earnings announcement. I don’t know whether it was due to the buyback announcement, but results were only okay. The bank also seems to slowly reach the peak in their net interest margin, as they shift parts of the variable loan portfolio to fixed-rate. At the same time, deposit costs are increasing.

Pair all the above with a 2.3x price to tangible book value – a clear premium (as of the date of closing the case). Even after the drop in sympathy with other bank stocks, the P / TBV is still 1.9x. That’s too expensive to compensate for the risks, as there is also barely any growth.

And finally as promised, here is the update I send to my Premium Members to close this chapter – at least for now.

source: my update #2 to Butterfield – closing this chapter

I am happy to confess that my update was VERY diplomatically formulated.

Of course, I haven’t seen a major banking collapse coming over the the course of a few weeks. But even if there haven’t been a banking crash, the risk reward profile tilted in the wrong direction.

Hence, I closed this one with a total return of 13.5% – including one dividend payment.

source: Financial-Engineering.net, Premium Member’s area

I will continue to monitor the stock, but for now, I wanted to limit risks.


Banking is a business that depends on credibility, trust and confidence.

If customers pull their deposits, things can get really sour – especially if the bank invested too big parts into the wrong types of assets.

I showed you why the Silicon Valley Bank collapsed with a deep dive into their balance sheet. Hopefully, this helps you to check your banking investments – should you be among such risk-seeking investors.

By becoming a Premium Member, you get instant access to my already six published research reports (one of them is free for newsletter subscribers) as well as three updates. Likewise, you qualify for eight more exclusive reports with my best investment ideas plus updates on the featured businesses over the next twelve months.

You can preview my so far published exclusive reports by clicking here.
Get access to my Premium Member’s Area with a sign up by clicking here.