4 ms·

I will first try to explain with simplified numbers and then do the equivalent calculation somewhere else. Let's assume you buy a $100 bond with 0% rate for 10

I will first try to explain with simplified numbers and then do the equivalent calculation somewhere else. Let's assume you buy a $100 bond with 0% rate for 10 years. For simplicity, let's assume it's a riskless bond. Now, let's suppose those same bonds now pay 5% a month later. Well, the smart thing to do would be to sell your 1-month old bond and buy the new one. Of course, everyone is doing the same thing so the price has to drop until the bonds are equivalent. You would get $100/1.05^10 = $61.39. Of course, the old bond still pays 0% but now, on paper, the price of the bond should grow 5% every year as we get closer to maturation. Going to the real world, it would be something like 4.5% (current Fed rate - expected to be higher) minus 1.5% (the MBS rate they have) is 3% difference and so $100/1.03^10 = $74.41. Now, you said 10+ and so doing the same thing with 15 years is $64.19. This is also not including the fact that MBS is strictly worse than treasuries in terms of riskiness and so it's easy to imagine 50% off.

actionablefiber 4y ago
> You would get $100/1.05^10 = $61.39. Emphasis on the exponential decay relationship between market price and time-to-maturity. If you change that 10 to a 30, the bond is worth $23, and if you change it to a 50, it's $8.72. For a bond that pays $100 at maturation. I think laypeople intuitively guess that long-dated bonds are safer, because that is sort of how it feels when you are borrowing money to buy a house. But in terms of the market value of the bond, you add exponentially more interest rate sensitivity as the time-to-maturity increases.
- panarky 4y ago
  The rule of thumb is that for each 1% increase in interest rates, a bond loses its years to maturity as a percentage. So a bond with five years to maturity would lose 5%, and a bond with ten years to maturity would lose 10%. If SVBs bonds had a ten year maturity when purchased, that's probably nine years remaining when interest rates increased from 1.5% to 5.0%, so that's 9 * 3.5 = 31.5% reduction in value. If they bought $80 billion of these, that's a $25 billion dollar loss. If their shareholders equity was $16 billion, then that's zeroed and a combination of depositors, the FDIC (for insured deposits) and other creditors would have to eat the remaining $9 billion.
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actionablefiber 4y ago

> You would get $100/1.05^10 = $61.39. Emphasis on the exponential decay relationship between market price and time-to-maturity. If you change that 10 to a 30, the bond is worth $23, and if you change it to a 50, it's $8.72. For a bond that pays $100 at maturation. I think laypeople intuitively guess that long-dated bonds are safer, because that is sort of how it feels when you are borrowing money to buy a house. But in terms of the market value of the bond, you add exponentially more interest rate sensitivity as the time-to-maturity increases.

panarky 4y ago
The rule of thumb is that for each 1% increase in interest rates, a bond loses its years to maturity as a percentage. So a bond with five years to maturity would lose 5%, and a bond with ten years to maturity would lose 10%. If SVBs bonds had a ten year maturity when purchased, that's probably nine years remaining when interest rates increased from 1.5% to 5.0%, so that's 9 * 3.5 = 31.5% reduction in value. If they bought $80 billion of these, that's a $25 billion dollar loss. If their shareholders equity was $16 billion, then that's zeroed and a combination of depositors, the FDIC (for insured deposits) and other creditors would have to eat the remaining $9 billion.

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