Unless you’ve been on a silent retreat in Indonesia for the last week, you’ll have seen the news about Silicon Valley Bank (SVB) and Signature Bank. After experiencing a run on their deposits, both banks were shut down by the regulators, SVB late Friday and Signature Bank on Sunday.
There hasn’t been a full bailout like in 2008, as shareholders have seen their investments completely wiped out. However, in order to preserve the integrity of the banking system and avoid further bank runs, the Treasury, Federal Reserve and FDIC issued a joint statement guaranteeing all deposits.
This is a relieving result for a huge number of stable, profitable businesses who would have experienced massive cash flow issues, missed payrolls and been unable to pay suppliers, if they had not been able to access their own cash.
The regulators have also implemented a facility which should help banks that face a similar liquidity crunch in the future, but it’s far from a blanket guarantee on all deposits. For businesses, the threat has subsided, but it will never go away completely.
So what next? Well, it should be high on everyone’s priority list to put protections in place against a similar event in the future and enlist the best cash management tools and resources as possible.
In this article we’ll give you an overview of what happened to SVB, and how your business can protect itself against this problem going forward.
What Happened to Silicon Valley Bank?
At this point, you’re probably sick of reading the Twitter threads and LinkedIn hot takes about what happened.
Here’s a rundown of the SVB collapse – the bullet point version:
- Silicon Valley Bank’s main client base was startups and their founders.
- During the pandemic tech boom, VC’s went crazy, throwing cash at anyone with a landing page.
- As a result, SVB’s deposit book went from $60 billion in 2018 to $189 billion in 2022.
- Banks make money from lending based on their deposits, but SVB couldn’t grow their loan book fast enough, so they had to invest to generate returns.
- With rates at historic lows, they put a huge amount (around $80 billion) into 10+ year mortgage backed securities paying around 1.5%.
- When interest rates go up, these types of securities go down in price. And as you know, interest rates went up. A lot. And fast.
- At the same time, the 2022 crash happened. SVB wasn’t getting the same VC funding cash coming in, and their client base was dipping into their accounts in order to fund their companies.
- So to raise cash, SVB had to sell assets at a $1.8 billion loss.
- Silicon Valley group chats started buzzing, prominent VC’s starting tweeting in ALL CAPS and before we knew it, everyone was trying to get their money out of SVB.
- Bank run kicks off, bank can’t meet redemptions, bank is shut down by regulator.
The fundamental point to keep in mind is that the underlying security for the deposits is still there. Unlike the 2008 financial crisis, these mortgage backed securities are still considered safe and viable.
The problem is that their value right now is lower than their purchase value because of interest rates, and investors have to wait until that value recovers, or until they mature in 10+ years in order to get their full capital back.
That’s fine, but not very helpful when you have thousands of angry VC’s and founders wanting their money today.
So the regulators have stepped in to provide bridging liquidity to cover this shortfall. A key point is that the taxpayer isn’t providing any funding for this mechanism.
Could This Happen to Other Banks?
Technically, yes. Fractional reserve banking is the system that all banks operate on. As the name suggests, it means that banks only keep a fraction of their deposits in reserve, based on the expectation that not everyone will need their money at the same time.
It’s no different to the carnage that would ensue if every single member of your local Planet Fitness turned up to workout at the same time.
It would be carnage at the weight racks.
And fractional reserve banking is an important part of the financial system. It’s what allows banks to lend money out, which helps people buy homes and businesses to grow.
The reality is that bank runs are unlikely because most banks scatter their duration risk for bonds and don’t have as much of a boom or bust client base as SVB did.
Many account holders at Wells Fargo or Bank of America or any other major bank add slowly to their savings every month, and sometimes don’t make a withdrawal for decades.
That’s as opposed to pre-revenue startups, who dump millions in funding into their accounts and then burn through it over the course of a few months or years.
But, the risk of a bank run is never zero.
How Can Businesses Avoid Exposure to Liquidity Risk?
So the key question then, is how can a company manage this risk? Well, although the banking system and the details leading to the collapse of SVB are complicated, managing the risk from a business standpoint is actually pretty simple.
But just because it’s simple in concept, doesn’t necessarily mean it’s easy in practice.
Really, the best way to mitigate the risk of issues with your bank is through diversification of your deposits. This is good business practice for many reasons, not just the potential risk of a bank run.
This situation with SVB meant many companies couldn’t access the cash in their accounts, but there are a wide range of other situations that could lead to the same result. We’ve seen technical problems in IT infrastructure at banks that have meant companies have been unable to access their cash for days.
For businesses situated in Ukraine, you can imagine some of the challenges that they would have experienced in trying to access their accounts during a war. Threats like malicious hacking attempts are also a possibility.
None of these events are highly likely, but they are all possible. And as a business, you need to ensure that you maintain access to cash under any eventuality.
Check out this episode of Fintech Corner in which Trovata CEO, Brett Turner, and Trovata CPO, Joseph Drambarean, open up about handling business during the SVB collapse (yes, we banked with them too):
Deposit Diversification Explained
Diversification of deposits is much like diversification of investments. By spreading your exposure across a range of different accounts and banks, you limit the risk of a catastrophic event shutting off access to your cash.
The safest way to manage this is to ensure you keep less than the $250,000 FDIC insured amount in any given bank, though there are products available from some banks that use cash sweep accounts to effectively increase this figure substantially.
How much you keep in each account and with each bank will obviously depend on the size of your business, but it’s worth erring on the side of more diversification than less.
Of course, if you operate in multiple countries and currencies, you should ensure you have diversification of your deposits within each of these jurisdictions. It’s all well and good having seven different accounts in different currencies, but if you lose access to all of your US dollars you’re still going to have problems.
While this is the best strategy to minimize risk in your corporate treasury, it doesn’t come without its challenges.
The Challenges of Deposit Diversification
Namely, keeping track of all of these accounts. The more banks you deal with and the more accounts you have, the more challenging your reconciliation process becomes. The benefit of having everything with one bank is that you can login to a single dashboard and see your daily cash position in an instant.
If you have nine banks to login to, multibank cash management becomes a much more time-consuming process. You might gain security, but you lose flexibility and oversight of your operations. Not good.
That’s where Trovata comes in.
Access a Single Source of Truth for All Your Bank Accounts
Trovata provides a consolidated overview of your corporate treasury, bringing together your accounts in real-time in a single dashboard.
It doesn’t matter whether you have three accounts or 100 accounts, you can view accurate, up-to-date cash balances together, allowing you to make decisions and manage cash simply and quickly.
Not only does it allow you to keep on top of where your cash is, it also allows you to quickly see your exposure to all your institutions, and shift funds if you believe you’re becoming overexposed in any particular area.
With the speed at which information travels now, massive events like bank runs can happen in a matter of hours.
A consolidated, real-time overview of your company finances is vital to your corporate risk management strategy. Request a demo today!
