Hal Masover, CRPC®
In October 1987 I was a new father. I was also new to financial markets. The Oct 19th collapse looked so much like 1929 that I was sure the world would never be the same and that I had to take action to protect my new family. I was far from alone in my thinking. To the contrary, only a very few people could be heard to say that it was a buying opportunity. Just about everyone felt the same panic I did.
In 1989 Russia defaulted on its debt and markets fell roughly the same number of points as they had in 1987. But the market had risen so much in the intervening time that 500 Dow points was a smaller percentage drop than in 1987. Oh, and the world didn’t end again.
A few years later, thousands of savings and loan associations across the country either failed or were closed by the government. And the world didn’t end.
The 90’s saw at least two dramatic failures, Long Term Capital, a Connecticut hedge fund with nearly $1 trillion in liabilities, and the Chinese currency panic. Oh, and we survived both.
Next was the World Trade Center attacks on 9/11. The markets were actually shut for a week. And soon after came the dotcom bubble wiping out tech fortunes.
And then came the biggest catastrophe of all, the Great Recession and the Financial Crisis.
And we survived all of these things and the pandemic.
Long before the sun burns out humans will either leave this planet or simply cease to exist. When that happens, long after you and I have left the scene, the world will actually end.
Before then the United States will probably end too. The US dollar will no longer be the world’s currency. Everything will change. Nothing lasts forever.
But put the failure of Silicon Valley Bank and Signature Bank with the list of things that are catastrophes but not the end of the world.
Each of the catastrophes of the past did change the world and the failure of these banks will likely do the same. We simply don’t want the same mistake to proliferate so we try to make new rules to prevent that. Sometimes it works. Sometimes even more change is needed.
But for now, certain things remain true. A well invested portfolio in high quality investments is a good place to have your money. And through the history of the last few hundred years, whenever the future has looked doubtful, it’s been time to invest more money.
No one can say for sure that this time will be like all the other ones and prove to be a great time to invest, but given that history, it seems pretty likely.
It is the conundrum of investing that the best time to invest is when investments go on sale, and they normally only go on sale when everyone is afraid and thinks things will be terrible for a long time to come. Believing that fear and acting accordingly has robbed quite a few people of a lot of potential returns.
Put another way, you only get good prices to buy things at when everyone is afraid. I suggest you write that down and tape it to the corner of your computer screen.
This time that the world didn’t end was about stress on the banking system. The rapid rise in interest rates has created stress for pretty much all banks. Because of 2008, most banks today are much stronger than they were then because of the regulations put in place to try to keep another 2008 from happening.
The biggest piece of regulation known as Dodd/Frank, designated banks of a certain size as systemically vital. Banks with $50 billion or more in deposits were required to meet more stringent guidelines than smaller banks.
In 2018 the Trump Administration rolled back some of these rules including increasing the $50 billion threshold up to $250 billion. Silicon Valley Bank immediately jumped on this increasing their deposits from $50 billion to $200 billion in just 2 years.
A lot of these deposits were from small tech companies that came under stress over the last one to two years and as a result had an increasing need for their cash. But Silicon Valley was not in position to give them back their cash in the amounts being asked for. The reason has to do with a simple investment mistake.
When a bank takes your deposit, they don’t just put it in their vault and hold it in case you need it. They invest it. The make mortgage loans and other loans and they also buy US Treasury bonds. Silicon Valley bank bought a lot of US Treasuries. The problem was that because interest rates were very low at the time all this cash was flooding into their bank, they bought long term treasuries because they paid more interest.
That was their big mistake. When you have a large amount of money to invest in bonds, the trick is to invest some in short term bonds and some in long term bonds so that you always have some bonds maturing. Because Silicon Valley bank did not properly manage their bond portfolio, they got caught in a cash squeeze. In order to meet their customer’s demands for cash, they were forced to sell some of their treasuries, which due to the rapid rise in interest rates, were now worth less than they had paid for them. To make a bad situation worse, they dumped all the bonds they needed to sell at once, guaranteeing an extra bad price on the sale.
Word of their losses got out and the next day customers withdrew $40 billion in deposits. The day after that, Silicon Valley Bank was out of business.
You could say they were put out of business by stresses in the economy – stresses in the tech industry and stresses created by rapid interest rate increases. While that would be a somewhat true statement, it’s really not what happened here. It was just very bad management that they might have gotten away with if not for those economic stresses. But it wasn’t the stresses that killed them, it was bad management.
There is a worry about contagion. The same stresses are on a lot of the banking system. But the only contagion we need to worry about is stupid portfolio and crisis management. I know there’s no shortage of stupidity, but Silicon Valley Bank was truly exceptional in the quantity of it.
Hal Masover is a Chartered Retirement Planning Counselor and a registered representative. His firm, Investment Insights, LLC is at 508 N 2nd Street, Suite 203, Fairfield, IA 52556. Securities offered through, Cambridge Investment Research, Inc, a Broker/Dealer, Member FINRA/SIPC. Investment Advisor Representative, Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. Investment Insights, Inc & Cambridge are not affiliated. Comments and questions can be sent to hal.masover@emailsri.com These are the opinions of Hal Masover and not necessarily those of Cambridge, are for informational purposes only, and should not be construed or acted upon as individualized investment advice. Investing involves risk. Depending on the types of investments, there may be varying degrees of risk. Investors should be prepared to bear loss, including total loss of principal. Past performance is no guarantee of future results.
Indices mentioned are unmanaged and cannot be invested in directly.