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There are several lessons to learn from this SVB collapse that affect everyone: 1. Bonds are not risk-free as many would suggest. Even US Treasuries (conssider

by jmyeet 4y ago

There are several lessons to learn from this SVB collapse that affect everyone: 1. Bonds are not risk-free as many would suggest. Even US Treasuries (conssidered the safest of bonds) are subject to this. Bond prices move inversey with interest rates. SVB had long-term MBS bonds at a low interest rate when interest rates went up. Yes, their bond portfolio still paid coupons but if you ever want or need to liquidate those bonds, they're subject to the interest rate price movements. 2. There's a principle in finance called the matching principle that you match the duration of debt to the life of what it's for. So if you're building a plant with a 30 year life, use 30 year debt. Many a company has tried to save money by, say, rolling over short-term debt because it's "cheaper" and have been made insolvent by a spike in interest rates. SVB had 10 year MBS bonds for a higher return when they made need to liquidate those bonds to cover withdrawals. For individuals, don't park your money in 30 year bonds if you need it next year. You're betting on interest rates. If that's not what you want, don't do it. 3. Once again we learn the value of regulation and get even more evidence of how deregulation doesn't work. Deregulation increases profits by shifting risks to the taxpayer. That's all. Tricks like splitting amounts between banks shouldn't be necessary. It is incredibly difficult to pierce the finances of banks and expose the risks of a run on the bank, particularly when on paper the bank has a lot of assets. This shouldn't be necessary. Custodial assets shouldn't be risked. SVB's assets need to be stripped and sold to cover depositor liabilities, shareholders be damned.

HWR_14 4y ago
In the FDIC case it shifts to the other insurance premium paying institutions. The taxpayer isn't on the hook. And SDC's assets are all seized. If there is anything left after repaying the depositors, the shareholders will split it. But I wouldn't bet on it being positive.
vba616 4y ago
>There's a principle in finance called the matching principle that you match the duration of debt to the life of what it's for. Hmm... If you have long term bonds, you can stagger them so you have some maturing at much shorter intervals than the full term. I think it's called a "ladder" or something like that. According to some experts, the problem with SVB's situation was they didn't have diverse enough depositors, since a typical bank has a lot of ordinary people as customers who do not have such a herd mentality or talk to each other. >SVB's assets need to be stripped and sold to cover depositor liabilities, shareholders be damned. This sounds like you don't think that is what is happening in the normal course of things. As far as I know, that roughly characterizes what always happens to a bank that fails in the US. That's what shareholders (of banks) are for, isn't it?
- jmyeet 4y ago
  > I think it's called a "ladder" or something like that. The term "ladder" crops up in personal investing where people will seek a higher overall return by rotating and staggering 1-3 year certificates of deposit ("CDs") so you'll see terms like "CD ladder". So if 2 year CDs have the best rate and you have $100,000 in savings you want to park in basically cash then every month you'll invest 1/24 of that capital in the latest 2 year CD. Technically companies can do this with bonds too and there is a mix of long term and short term assets but it doesn't tend to be called a ladder. There is a concept in holding fixed income assets (which includes bonds) called "duration". The duration is the weighted time average of all the cash flows. Duration includes the coupon rate vs the prevailing interest rate, which for bonds would be the FEd rate. So a bond with 8 years remaining might have a duration of, say, 4.1 years. The higher duration the more sensitive the price is to movements in interest rates. So if you mix short and long term bonds, all you've really done is reduced the overall duration of your bond portfolio so you don't tend to think of this as a ladder. Even if you had a ladder of long term bonds but you're still sensitive to interest rate movements and cash flow issues like a run on the bank. SVB used depositor funds to acquire long term MBS bonds instead of rolling them in much shorter duration assets. Why? To eke out a few more cents in profit while adding huge risk. If SVB only held 3 month Fed debt and just constantly rolling it over then none of this would've happened.

by jmyeet 4y ago

HWR_14 4y ago

In the FDIC case it shifts to the other insurance premium paying institutions. The taxpayer isn't on the hook. And SDC's assets are all seized. If there is anything left after repaying the depositors, the shareholders will split it. But I wouldn't bet on it being positive.

vba616 4y ago

>There's a principle in finance called the matching principle that you match the duration of debt to the life of what it's for. Hmm... If you have long term bonds, you can stagger them so you have some maturing at much shorter intervals than the full term. I think it's called a "ladder" or something like that. According to some experts, the problem with SVB's situation was they didn't have diverse enough depositors, since a typical bank has a lot of ordinary people as customers who do not have such a herd mentality or talk to each other. >SVB's assets need to be stripped and sold to cover depositor liabilities, shareholders be damned. This sounds like you don't think that is what is happening in the normal course of things. As far as I know, that roughly characterizes what always happens to a bank that fails in the US. That's what shareholders (of banks) are for, isn't it?

jmyeet 4y ago
> I think it's called a "ladder" or something like that. The term "ladder" crops up in personal investing where people will seek a higher overall return by rotating and staggering 1-3 year certificates of deposit ("CDs") so you'll see terms like "CD ladder". So if 2 year CDs have the best rate and you have $100,000 in savings you want to park in basically cash then every month you'll invest 1/24 of that capital in the latest 2 year CD. Technically companies can do this with bonds too and there is a mix of long term and short term assets but it doesn't tend to be called a ladder. There is a concept in holding fixed income assets (which includes bonds) called "duration". The duration is the weighted time average of all the cash flows. Duration includes the coupon rate vs the prevailing interest rate, which for bonds would be the FEd rate. So a bond with 8 years remaining might have a duration of, say, 4.1 years. The higher duration the more sensitive the price is to movements in interest rates. So if you mix short and long term bonds, all you've really done is reduced the overall duration of your bond portfolio so you don't tend to think of this as a ladder. Even if you had a ladder of long term bonds but you're still sensitive to interest rate movements and cash flow issues like a run on the bank. SVB used depositor funds to acquire long term MBS bonds instead of rolling them in much shorter duration assets. Why? To eke out a few more cents in profit while adding huge risk. If SVB only held 3 month Fed debt and just constantly rolling it over then none of this would've happened.