On Bank Runs and Bank Safety
In case you hadn't heard, there have been a few issues in the banking sector recently, specifically with Silicon Valley Bank(SVB) and Signature Bank(SB), and you might be more worried than you need to be here. That's not to say what happened isn't notable, the first and second largest bank failures happening within days of each other is certainly notable, but maybe the risk to other banks is less than you figure.
First and foremost, this is definitely a different flavor of rodeo than what was thrown down in 2008. Unlike the subprime mortgage crisis that triggered a global financial meltdown, the SVB and SB failures were largely due to their own mismanagement and exposure to the tech industry, which has been hit hard by rising interest rates and lower funding.
So, what are the whys and how’s of the Silicon Valley Bank and Signature Bank failures? SVB found themselves in a bit of a bind for a couple of reasons. They had been flush with cash in recent years and invested heavily in long-term bonds which are very safe if you can make it to term, but as they are tied to interest rates they become less valuable on the open market if you need to sell before the term if interest rates rise. They were flush with cash because they cater heavily to start-ups and tech, start-ups and tech who were bringing in less funding recently and who were also being hit by higher interest rates, and so the same companies were now having to pull funds from SVB to cover costs. Hence SVB, who were heavily invested in long-term bonds, needed to sell investments to free up cash flow. SVB sold some long-term bonds at a loss to cover everything but since the sell was at a loss they were now needing to raise additional capital to cover everything.
And here's where it gets really bad, news of the capital needs goes out, herd mentality kicks in, panic hits, and voila...bank run. The quickest bank run in history. The bank was unable to meet the demand for withdrawals and declared insolvency on March 10, 2023. It was the biggest bank collapse in the US since the 2008 failure of Washington Mutual during the global financial crisis. The government stepped in to guarantee customer deposits, even above the FDIC's $250,000 insured limit. The bank was taken over by the FDIC and reopened as Silicon Valley Bridge Bank until it was acquired by First Citizens Bank on March 26 at a discount.
Signature Bank was another regional bank that specialized in serving high-net-worth individuals and businesses. It also had a large exposure to the tech sector and suffered from similar problems as SVB. It reported a $2.3 billion loss in early March 2023 and faced a credit downgrade. Customers began withdrawing their money en masse fearing another SVB-like scenario and the government fearing the same on a larger scale moved quicky to prevent a mass bank run due to herd mentality and the contagion effect. The bank ran out of liquidity and failed on March 13, 2023. It was the second largest bank failure in US history after SVB. The government also guaranteed its deposits and shut down the bank. The FDIC sold its assets and liabilities to Wells Fargo on March 20.
So what does this mean for other banks? Well, it depends on how exposed they are to the tech industry and how well they manage their risks. Some banks, like First Republic and JPMorgan Chase, have also seen some deposit outflows and share price drops due to their tech exposure but they have more diversified portfolios and stronger capital buffers than SVB or SB did . Other banks, like Bank of America and Citigroup, have less exposure to tech and more exposure to other sectors that are benefiting from the economic recovery. They have also reported strong earnings and increased their dividends.
The bottom line is that while the SVB and SB failures were shocking and unprecedented, they were not indicative of a systemic crisis in the banking sector. They were more like isolated incidents that resulted from poor decisions and bad luck. The government's intervention also helped prevent a contagion effect and restore confidence in the system. The banking sector remains safe and sound, but some banks may face more challenges than others depending on their exposure to tech and interest rates.
On Inflation
While inflation hasn't magically gone away in the US is has shown some improvement in May 2023, according to the latest data from the Bureau of Labor Statistics (BLS). The Consumer Price Index (CPI), which tracks the average change in the prices of a basket of goods and services, rose by 0.4% in May on a seasonally adjusted basis, down from 0.8% in April. This is the tenth inflation slowdown in a row. The core CPI, which excludes the volatile food and energy components, increased by 0.3% in May, down from 0.9% in April.
The annual inflation rate was 4.2% in May, lower than the 5% recorded in March, but still well above the Federal Reserve's 2% target. The main drivers of inflation in May were transportation, housing, and medical care services. Transportation services increased by 13.9% over the year, with airline fares rising by 17.7%. Housing costs rose by 8.2%, with rent of primary residence up by 8.8%. Medical care services increased by 1%, with hospital services up by 2.7%.
The Fed has been raising interest rates since March 2022 to combat inflation, pushing its benchmark rate to between 5 and 5.25%. However, this could be the last rate hike for a while, as the Fed signaled that it may pause its tightening cycle and wait for more data before making further adjustments.
The inflation outlook for the rest of the year is uncertain, as it depends on various factors such as oil prices, trade tensions, consumer confidence, and global growth. Some analysts though expect inflation to ease further as the base effects from last year's pandemic-induced price shocks fade away.
And Briefly Savings Accounts Interest Rates
Banks are reliable but are they the optimal choice to store the majority of your money? Perhaps not, currently the average return for bank savings accounts is around 0.25% APY, though some banks may offer higher rates. It's nice that your money can earn you some more money even if it's just 0.25%, but there are other methods for managing your money that can have rates yielding up to 4% and above. Specifically, you can invest in a money market fund, which is a type of mutual fund that invests in high-quality, short-term debt instruments, cash, and cash equivalents. Money market funds are considered extremely low risk on the investment spectrum. A money market fund generates income (taxable or tax-free, depending on its portfolio), but little capital appreciation. There are several funds available on the market that are managed for stability, liquidity, and income. They trade at $1.00 per share and can be liquidated and the money transferred to your bank account within a business day if the money is needed. We strongly recommend discussing with us the possibility of using these funds if you have a large amount of savings just sitting there in your savings account. Please contact us to see if it is an option that would be suitable for you.
As always, thanks for taking the time and please don’t hesitate to reach out to us on this or anything else if you would like to discuss further.
