Fed action key in stemming SVB contagion
The collapse of US bank Silicon Valley Bank (SVB) has sent shockwaves through financial markets, but the lender’s sudden demise is not expected to trigger another financial crisis akin to that of 2008, according to BNY Mellon Investment Management economists and portfolio managers. However, it may cause central banks to pause rate rises.
The failure of US bank Silicon Valley Bank (SVB) is worrying but is unlikely to have a systemic effect on the global banking system, according to BNY Mellon Investment Management economists and portfolio managers. It is also unlikely to trigger a repeat of 2008’s global financial crisis (GFC) because regulators have since ensured most banks are much better capitalised, they add.
BNY Mellon Investment Management global chief economist Shamik Dhar said the collapse of SVB, the US’s 16th largest bank by assets, would likely have consequences on the tech sector and investment, which could have an impact on US aggregate supply, intensifying inflation issues.
As SVB unraveled, the top four US banks lost US$52bn in market cap1, but Dhar notes while the development is worrying for now, it is ultimately probably not systemic. “There will be consequences for the tech sector and investment, but it probably isn’t a financial event on the scale of the 2008 GFC,” says Dhar. “Some of the issues faced by SVB appear idiosyncratic, in particular the drawdown in deposits from cash strapped start-ups.”
Dhar notes the US policy response has so far been decisive and in his view will probably stem the contagion. “The US Federal Reserve has introduced a new Bank Term Lending Program that will provide 12-month loans, taking collateral valued at par (rather than marked-to-market). This effectively involves the Fed taking on substantial market risk, but the systemic threat was felt to be sufficiently large to justify this, as well as the potential moral hazard implications of the Treasury’s intervention. In the UK, HSBC has agreed to take over the UK subsidiary, honouring all existing banking services to the tech eco-system.”
Still, the bigger picture story remains. Dhar says the long period of excessively loose monetary policy threatens institutions whose business models were predicated on this situation persisting. “When inflation came along, those institutions were always likely to find their viability under threat, and there may be more of them to come.”
Dhar believes in the short run, the US event will probably prompt the Fed and other central banks to pause on rate hikes, and the tightening of credit conditions could bring forward the downturn necessary to bring inflation back to target. Another possibility is that the pause stabilises the economy and financial markets, but allows inflation to stay higher for longer, he says. “In that case, we could find ourselves in a trickier situation later this year, in which monetary stability requires rates to go up, at the risk of uncovering more financial stability issues. Central bankers have a difficult year ahead.”
The Newton Real Return team also described SVB’s collapse as an idiosyncratic event, related to the nature of the bank’s lending and ties to Silicon Valley itself.
“We do not think that there will be more extensive contagion in the banking system and therefore would not characterise SVB as a ‘canary in the coalmine’,” the team says.
The Real Return team does observe the backdrop for US banks is becoming more challenging, with net interest margins coming under pressure because of higher competition for deposits, but it does not consider there to be a general problem with bank capitalisation.
“Indeed, balance sheets have been strengthened significantly following the 2008 global financial crisis. European deposits tend to be more ‘sticky’,” the team adds.
Is the new era to blame?
Newton’s global equity income team also does not think SVB’s collapse is the beginning of another systemic financial crisis. Instead, it is perhaps the inevitable consequence of the ending of the zero-interest rate/quantitative easing era. “We are not anticipating a repeat of the 2008 global financial crisis; regulators have ensured that the vast majority of banks are much better capitalised institutions now than they were then.”
Newton deputy head of equity income John Bailer believes contagion fears to the broader US financials sector are likely overblown, especially among the larger US diversified financials and US banks.
“These larger institutions have different and more diversified client bases, more stable deposits, stronger capital positions (a result of larger institutions being more regulated), larger cash/liquidity buffers and more diversified business lines,” he adds. The current situation also highlights that tighter regulation is not necessarily a bad thing, Bailer says, especially as it relates to capital ratios and liquidity.
In Bailer’s view, SVB’s current situation is unique to itself and potentially a few other smaller banks with similar client bases. However, he adds it is also an example of how some business models become collateral damage when regimes change (tighter monetary policy and liquidity conditions). “It is also not a coincidence a Silicon Valley bank is having these issues. The bubble was created in the technology sector with many cash burning venture capital companies located in that area.”
GE 1347204 Exp: 18 September 2023