Silicon Valley Bank’s fall widens systemic cracks as cheap money vanishes

David Randall and Davide Baruscia

NEW YORK, (Reuters) – Cracks are emerging in the global financial sector as the decade-long era for cheap money comes to an end. Investors worry that the shock collapse of Silicon Valley Bank may signal that the global markets could be facing a reckoning. 

The U.S. Federal Reserve initiated its most aggressive interest-rate hike cycle since 1980s. Other central bank members joined in and global investors were left with a range of consequences.

They saw the longest technology share selloff since the dotcom boom at the turn of this millennium. There was also a collapse of the crypto industry and a run on U.S. real estate funds. The Bank of England intervened to stop a near-collapse of British retirement funds.

Market participants were worried after Friday’s second largest bank collapse in U.S. history. Rising interest rates mean that more disruptions are possible, and they cut off access for cheap money, exposing vulnerabilities in the economy, and this is what market participants fear.

Bill Ackman, Kyle Bass, and Bill Ackman are big investors who argue that the government must act fast to prevent Silicon Valley Bank from collapsing and causing more withdrawals in the banking sector.

Investors and institutions that placed risky bets have mainly felt the pain. It is still to be seen if the pain spreads and creates a new crisis. This could depend on how hard the central banks around the world continue to push interest rates higher.

“When you go this aggressively into a hiking maneuver after creating so much inflation you’re going to break something,” Kyle Bass, Hayman Capital Management’s founder and chief investment officer, said:

“And what they (the Fed) are going to learn is that the rapidity with which they raised rates is as reckless as the rapidity with which they printed money,” The investor said that he does not hold a position in SVB.

Jerome Powell, Federal Reserve Chair, reiterated Wednesday his call for higher rates. However, he stressed that the debate is still ongoing and would depend on forthcoming data. U.S. officials also claimed that the banking sector is strong.

However, market anxiety has grown in recent days. The S&P 500 dropped 4.6% this week, almost erasing its gains for 2011. Meanwhile, the Cboe Volatility Index (known as Wall Street’s fear gauge), jumped to its highest point in three months. Two-year Treasuries yields saw their largest plunge since 2008’s financial crisis. Investors are likely to flee to safety as they bet that economic distress will force the Fed’s aggressive tightening.

According to the U.S. government, they don’t see any signs of a 2008-style financial crises in which institutions were in danger of falling apart. Janet Yellen, U.S. Treasury Secretary, and the White House noted that the U.S. banking system is more resilient than in the 2008 financial crisis.

Markets are indicating that contagion could be factored into the Fed’s calculations, potentially prompting it slow down its rate of interest rate increases. Investors are now pricing in a 38% chance for the Fed to raise interest rates 50 basis points later in the month, as opposed to the 68.3% possibility the day before.

“The Fed normally tightens until something breaks,” said Jack McIntyre, portfolio manager at Brandywine Global.

California’s banking regulators closed down Silicon Valley Bank Friday. The bank had $209 billion of assets at the end 2022. Depositors pulled out as high as $42 billion in a single day. This rendered it insolvent.

Similar to September’s UK pension crisis, the firm appeared to be at the wrong end yield surges. It was left exposed to interest rate risk, and insolvent.

Investors fled banks they felt were at risk because of potential vulnerabilities. The KBW Bank index fell more than 10% in the last two days, its largest decline since March 2020.

Some banks rush to provide reassurance. U.S. lenders First Republic Bank of America and Western Alliance released statements saying that liquidity and deposits were strong, despite shares falling more than 14% on Friday. Commerzbank in Germany, however, stated that it had seen no adverse effects. “corresponding risk” Its shares dropped 2.6% on the day it was founded.

“Contagion risk stemming from the collapse of SVB Financial triggered a sell now, ask questions later, backdrop for stocks,” Adam Turnquist is chief technical strategist at LPL Financial. He observed that less than half the Standard & Poor’s 500 companies were trading above their 200 day moving average, a drastic drop from 79% recorded in February.

Silicon Valley Financial Group was a deeply embedded part of the fabric and culture of the technology industry. It was a major source of financing for startups, as well as a popular provider of payroll processing services and personal wealth management.

Data from regulatory agencies shows that 89% of the $175 billion bank’s deposits were uninsured at the end of 2022. Hundreds of billions were left stranded while regulators attempted to find a buyer.

Numerous companies doing business with the bank were affected by this fallout. Stablecoin USD Coin(USDC) suffered a loss of its dollar peg. The coin plummeted to an unprecedented low after Circle, a U.S.-based firm behind the coin revealed that Silicon Valley Bank had held a significant portion of its reserves.

The failure of the bank will likely increase the pressures on companies for profitability, ending a period in which investors were willing and able to take years of losses to expand their market share.

Bass and Ackman both warned that the government needed to act fast in order to resolve Silicon Valley Bank, to ensure depositors. 

“The unintended consequences of the gov’t’s failure to guarantee SVB deposits are vast and profound and need to be considered and addressed before Monday,” Ackman posted a tweet on Saturday.

“If they don’t do that by tomorrow we have a systemic problem,” Bass spoke with Reuters during an interview. 

(Reporting from David Randall, Davide Baruscia, and Ira Iosebashvili. Editing by Megan Davies. Paritosh Banksal. Anna Driver.