Monthly Outlook：Several Things We Learned From the Silicon Valley Bank Collapse

MonthlyOutlook202304 EquityResearch·StrategyResearch·MonthlyOutlook SeveralThingsWeLearnedFromtheSiliconValleyBankCollapse ReportThesis: OnMarch102023,SiliconValleyBank(SVB)announceditscollapseandwasputintobankruptcyprotection,makingitthesecondlargestbankfailureinUShistory.Inthisreport,wewillpresentourobservationsandthoughtsonmarketriskssurroundingtheSVBfiasco. ReportAbstract: Banks'UnrealizedLossesEvokeLong-termLiquidityRisks.SVBisbynomeanstheonlybankfacingtheriskofplummetingassetprices.UnrealizedlossesoninvestmentsecuritiesheldbyUScommercialbankshaverisensharplysince2022,reaching$620billionbytheendof2022.ItappearsthatSVB's$15.2billioninunrealizedlossesisjustthetipoftheicebergoftheUSbankingindustry'smassivefloatingloss.Thereisstudyshowingthat186USbanksareatsimilarrisktoSVB,andifhalfofthesebanksweretosufferarun,$300billionofFDIC-insureddepositswouldbeatrisk. HerdBehaviorandQTExacerbateLiquidityRisks.LongbeforetheSVBcrisis,USdepositorswerealreadymovingtheirfundsfromdepositaccountstomoneymarketfundsinpursuitofhigherliquidityandbetterreturns.InthetendaysfollowingtheSVBmeltdown,MMFsattractedanevenmorerapidinfluxofcapital,resultinginahigherlevelofinflowthanduringallotherratehikecyclesinthepast30years.IntheInternetera,greaterinformationtransparencyhasalsoledtomorepronouncedherdeffects,exacerbatingliquidityrisks. Mindingthedeteriorationofliquidityinsmallbanks.AlthoughSVBandFirstRepublicBankwhichexperiencedliquiditycrisesareclassifiedaslargebanks,thedeclineindepositorconfidencehasputmoresignificantpressureonsmallerbanks.DataasofMarch152023showthatalargeamountoffundsflowedoutofsmallUSbanks,whilelargebankshadfundinflows.However,asofMarch22,thistrendappearstohavereversed.AsmoneycontinuestoflowintoMMFswhichisperceivedbythemarketasasafehaven,intheneartermwebelievethatsavingsoutflowsfromsmallandmedium-sizedbanksmayintensify. IsaDollarCrisisSurfacing?WhiledollardepositsintheUSbankingsystemarefullyprotectedbytheUSgovernment,dollardepositsinthebankingsectoroutsidetheUSarenotundertheprotectionofUSregulators.USbranchesofforeignbanksarealsooftennotcoveredbyFDICinsurance.WhileforeignbankscanborrowfromtheFedtoobtainliquiditythroughforeignexchangeswaplinesandtheFIMArepofacility,theseinstrumentsdohavecertaincaps.Anoffshoredollarcrisismaybeinevitable.Intheshortterm,webelievethatglobalmarketvolatilitywillintensifyandtheVIXindexwillcontinuetorise.Duringthisperiod,wepreferpreciousmetalsasastoreofvalue. Risks:ContinuousratehikesbytheFedcouldcausebondassetvaluestocollapse,impactingbankbalancesheets;Denteddepositorconfidenceandherdbehaviorcouldexacerbateliquidityrisks;Investorscouldfleetheunprotectedoffshoredollars,triggeringfurtherfinancialmarketturmoil. 14April2023 ResearchAnalystShiruiOuyang(852)38923120 ouyangshirui@dwzq.com.hk Relatedreports 1.EmbracingRisksandOpportunities 2022-04-11 2.TheUSStockMarketHasNotFullyPricedinInflationDataandInterestRateHikes 2022-06-29 3.FadingInflationandGrowth:WhatAretheSignalsDeliveredbyUSEconomicIndicators? 2022-07-20 4.NegativeInterestRateEraisOver,andWhereisEurope Headed? 2022-08-09 5.BePreparedforFurtherAggressiveFedRateHikes 2022-09-16 6.ReduceriskexposuretoEuropeanmarketsandbewareofliquidityshortageintheUS 2022-10-17 7.ReduceriskexposuretoEuropeanmarketsandbewareofliquidityshortageintheUS 2022-11-28 8.TimingtheRecessionandtheFed'sPivot:BullishandBearishViewsonthe2023USStockMarket 2022-12-31 9.TimetoDealWithMoreDisappointments 2023-3-1 Wewouldliketoacknowledgethecontributionandsupportprovided byHanruoFeng(冯涵若). TableofContents 1.Banks'UnrealizedLossesEvokeLong-termLiquidityRisks4 2.MarketHerdBehaviorandQTExacerbateLiquidityRisks5 3.Mindingthedeteriorationofliquidityinsmallbanks6 4.IsaDollarCrisisSurfacing?7 5.RisksHighlight8 TableofFigures Figure1:Unrealizedlossesofavailable-for-saleassetsheldbyUScommercialbankshaverisensharplysince20225 Figure2:Unrealizedlossesonavailable–for–saleandheld–to–maturitysecuritiestotaled$620billionin2022Q45 Figure3:InflowsintoMMFsduringnumbersofmonthsafterthebeginningofeachFedtighteningcycles(billionsofUSD)6 Figure4:CurrentlytheUSbankingsectorismuchmoreliquidthanduringtheGFC6 Figure5:AsofMarch152023fundsflowedoutofsmallUSbanksbutthetrendreversedasofMarch22 ..................................................................................................................................................................6 Figure6:Foreignbanksholdover1.3trilliondollarcashattheFedasofMarch20237 OnMarch102023,SiliconValleyBank(SVB)announceditscollapseandwasputintobankruptcyprotection,makingitthesecondlargestbankfailureinUShistory.Inthisreport,wewillpresentafewobservationsandthoughtsonmarketriskssurroundingtheSiliconValleyBankfiasco. 1.Banks'UnrealizedLossesEvokeLong-termLiquidityRisks Withoutgoingintotoomuchdetail,thecorereasonforSiliconValleyBank'scollapsewasthatitstockeduponlong-datedtreasurybondsandMBSduringthelowinterestrateseratowardstheendof2021.AstheFedraisedinterestrates,thevalueofSVB’sbondholdingsshranksignificantly,resultinginhugeunrealizedlossesontheas