This is Part 3 of our series on understanding the recent updates in the global banking industry.
Part 2: https://kidsnews.top/part-2-the-global-banking-system/
What happened with SVB – The call from Moody’s, the run on the Bank, and the quick demise
Headquartered in New York City, Moody’s – a company that informs investors about the companies they can consider investing in by giving them a rating of the company’s stock – changed the value of SVB’s rating to C from Baa1 after which the bank was closed by the California Department of Financial Protection and Innovation on March 10th 2023 and the Federal Deposit Insurance Corporation (FDIC) was given all authority over SVB.
Moody’s downgraded SVB’s rating after they noticed SVB started selling its shares and the bonds they purchased at a loss.
Why did SVB fail?
During the COVID-19 pandemic, many tech-based startups worldwide received a lot of funding for these problems due to the tech boom. Moreover, with the world trying to transition online due to the lockdowns, the technology boom increased funding for tech-based startups.
The whole world was bracing itself for a completely new world after the pandemic due to the disruptions caused by it. From 2019 to 2022 there has been a vast increase in investments in startups in the USA.
In 2022, venture capitalists (VCs) worldwide invested around $675 billion in startups.
Approximately 133 new startups in Silicon Valley were termed Unicorns (startups valued over $1 Billion), 69 in New York, and over 15 in Bengaluru. However, even though more money was invested, the total number of companies VCs invested, and the capital (money) raised by VCs to fund startups was lower than in 2021, indicating a decline in the growth in the industry.
As a result, SVB had a massive influx of deposits. The company’s management used these approximately $21 billion of their deposits to buy US Treasuries (government bonds – loans for the US Treasury Department) and mortgage-backed securities (bonds which consist of many home loans) during the COVID-19 pandemic when interest rates were low.
In the last year, many startups haven’t been receiving new funding as they used to for growing their business, which led to many of them using up the cash they deposited in SVB faster to fund their business operations. So, over the last few months, SVB sold its stocks and the long-term bonds it invested in, raising cash that needs to be paid to the customers demanding their money.
However, this is where things got tricky for the bank. With interest rates increasing up to 4.75% this year, the value of the bonds SVB purchased fell (bond prices decrease with the increase in interest rates). With the inflation at 6.03% (lower than the inflation rate in 2022 – where it was approximately 9% in June 2022, the Fed has been trying to decrease the rapid increase in the general price levels of goods and services due to excessive spending by increasing the interest rate.
When the interest rate was close to 0%, SVB and many other banks used deposits to grow their money holdings by investing in these bonds by the US Treasury (since they did not foresee the interest rates to be hiked up to this level). As a result, the market value (the value at which these bonds were sold) decreased with the increase in interest rates over time – present market value is the bond’s price at the current time.
On September 30th, 2022, SVB’s management stated that the prices of the held-to-maturity bonds, as of September 30th, 2022, were $15.9 billion lesser the worth at which they initially got the bonds.
To meet the money demands of their customers in March 2023, SVB tried to sell their own company’s stocks (a deposit that sells part of the company’s ownership to the public) at a lower price, which still created a loss of $1.8 billion. They were still unable to pay back their clients – startups and ordinary citizens- the money they deposited in the bank.
On March 9th, 2023, SVB received a request for $42 billion to be withdrawn from the bank from their customers, which wasn’t met by the bank, leaving their clients unsatisfied.
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