They can't determine the "proper" rate of increases. Any rate of increase would have started to clean the malinvestments out: and they were a prime exhibit of boom activity Blaming necessary rate increases isn't addressing the root problem.Maybe we can't kick the can any farther.
You may not be able to determine proper pacing, but doesn’t going from 12 years of ZIRP to the fastest FFR rate of change since ‘81 seem dangerous on its face (especially after all the prior assurances and imposition of the HQLA requirements)? Unless I’m mistaken, despite the public getting the “Reserved” treatment, the Fed has at all times been privy to/had access to the unrealized losses on bank balance sheets.
Social media and bank run fuel must not be stored together.
Yes, the Fed printed too much for too long. And they were way behind the curve. The Fed is the culprit but not for raising rates. Besides real rates are still negative. The recession should clean the zombies out, the sooner the better. Dangerous for who? Not for the little guy Bailing out Wall Street at the expense of most Americans has gotten us into this mess.
Agree rates had to be raised and that positive real rates should be the goal.
As to dangerous for who, all who have been somewhat understandably caught offsides by the historic pace at which they were raised. Your initial point about the impossibility of determining the proper rate of rate increases is well taken. I agree. So, despite not being able to know what’s proper, they effectively chose *fastest ever*. And did so after a decade plus of the trend being 100% in the opposite direction (coupled with a massively indebted economy at all levels). Given those conditions, It seems axiomatic that something slower than *fastest ever* should have been the choice.
[Note, I’m not sure if it is since 1981 or fastest ever. I’ve seen both and have used both in my replies to you for ease of reference]
Fastest ever doesn't mean much to me. It's not like they raise rates 300 points in one meeting. There was a series of hikes spaced over months. They told everyone that they were going to raise rates; people didn't believe them. We've been in a bond bull market since the early 80s, not many investors have been through a rising rate environment. Hence, a lot of caterwauling.
Losses are always zero sum, so if there are new domains beyond the comments of substack where i can find you lobbing your hilariously subversive hand grenades, please lemme know where. Nostr maybe? That said, if you’ve just decided to bask in the glory of a job well done, that’s fine too. Cheers.
I agree with you that sitting around and calling SVB "idiots" is extremely one-sided. I begin to involuntarily smile every time I think of the Fed's promises and what they have done, and if you take that into account, then SVB is understandable. It was interesting to read your article.
Don’t forget that the laws requiring banks between $50-250bn in total assets undergo annual stress tests (which stress for all sorts of conditions including interest rate shocks and ramps) reported to the Fed were rolled back….
They really misjudged the duration of their liabilities and that’s the ultimate reason for their sudden death….
Well there is probably 4-7 trillion of mark to market losses in the global bond market from rising rates. the question is where it is all distributed, some of it is obviously on bank balancesheets (like we see with SVB), a lot of it is probably sitting in pensions as well.
"Given front-end yields were only 25bps, the management team naturally sought to make a bit more by tapping into longer-dated bonds which offered yields slightly above 1%."
Not so sure I would want them managing my money. Isn't that risking a lot to gain a little?
If I had known beforehand that they could do such financial tricks for their own profit, I would never have trusted them with my money. It's a good thing I know that now.
Things are not supposed to be "obvious" before one makes a prudent decision to hedge. If this was all so predictable, and the Fed's fault, all banks would have done something similar and we are on the precipice of the failure of the entire banking system, no? If that is not what is going to happen, then this is SVB's fault. Suggesting that SVB had the right to believe the Fed's favorable statement on interest rate policy and commit to the HTM position and the loss of any opportunity to hedge is really writing them a blank check in the "excuses" department. Unfortunately for them and countless others, that check is going to bounce.
PwC's viewpoint provides guidance on the eligibility of held-to-maturity debt securities for designation as a hedged item in a fair value hedge. Since HTM securities are carried at amortized cost, they are obviously not eligible, but nothing in GAAP precluded $SIVB from swapping their HTM securities from fixed to floating...there is a difference between an economic hedge and an accounting hedge that is missed in this piece (respect MG, but he got this one wrong)...
Prof Plum, your analysis raises many good points, and I’d like to offer some others given SVB’s massive 2nd, 3rd, 4th order statistical sensitivities unique to their biz model.
For example, take your relationship between the IPO-deal data leading deposit flows. A key C-Suite job is understanding the balance sheet stock and flows and their dynamics. The 1st and 2nd deriv of IPO-deal volume suggested deposits may be at risk of not rising in the future. This was beginning in Q1 2021, a good 3-6 month lead. Additionally, if an outflow scenario were the case and the CEO wanted assets to be able to cover inevitable outflows...would I want to choose to be short a great deal of negative convexity with an MBS for an additional few basis points of a fixed yield? That’s called a Texas hedge.
Although the borrow short, lend long metaphor is generally true, SVBs highly idiosyncratic client base (invest for growth at all costs = negative cash outflows) adds some complication. These correlated liabilities mean their risk for withdrawals is highly non-linear relative to other diverse deposit cohorts. Coupled with 5x deposit growth and leading indicators suggesting increasing odds of withdrawals, how is the C-Suite managing their exposure to withdrawals? Therefore consideration of asset-mix that includes some offsetting non-linear payoffs and diversifying the correlated deposit base is critical. Perhaps, this was considered, unmanageable in the time available, or unknown entirely. Unfortunately, we do not know.
As to your point of the Fed’s actions being unprecedented, if I recall Volcker moved rates several hundred basis points in a much shorter timeframe? Or similarly, what happened to SVB deposits during dot com burst or GFC? It’s a fair point that the zeitgeist accepted the “transitory” or that gradual increases narratives were consensus. Nonetheless, I’m not sure ignoring other contingencies is a recipe for survival.
I don’t see how we can jump to conclude fault with the Fed when we haven’t ruled other possibilities given your evidence.
Correct Steve, that was the point of both deposits inflow growth of 5x in 1yr, leading indicators growth would not continue, and the unique type and correlated nature of its deposit base. All 3 combined suggest, that a slight change in direction could have outsized impact.
This period of time really reminds me of the late '80's Savings & Loan crisis (remember the Keating 5?).
For most of the 80's, banks and s&l's paid very low rates on deposits, then money market funds were created, offering much higher deposit rates, and as money fled for higher returns, the banks and s&l's were forced to compete for deposits at higher rates, leading to the collapse of many s&l's.
Thank you for a great article. I'm more familiar with IFRS, but my understanding is that they could have still hedged properly although as you noted the hedge accounting option would not have been available. So the hedge would have been recorded on a different balance sheet line with gains/losses hitting the P&L as fair value changed. Overall though, they would've still be able to obtain the same cash flow profile and risk management outcome.
Needless to say I would have a problem with Management if they made hedging decisions based on accounting presentation instead of business need.
Goddamn Michael, you’re fantastic. While this bromance with your work won’t offer you productive push back, I had to say something. Keep up the incredible work you do. So so many appreciate your perspective and your willingness to share.
Excellent analysis. My Twitter feed is filled with hot takes just as everyone else's, and I've yet to see a single person blame the Fed. The only outlier is Chris Whalen who has laid this squarely at the Fed's doorstep. So you two are in agreement full agreement.
Maybe the original sin was a decade of "front-end yields" being 0-25bps. Also, clearly, bank supervision is not a priority at the Fed.
That certainly contributed, but the pace of Fed hiking is the real problem.
They can't determine the "proper" rate of increases. Any rate of increase would have started to clean the malinvestments out: and they were a prime exhibit of boom activity Blaming necessary rate increases isn't addressing the root problem.Maybe we can't kick the can any farther.
You may not be able to determine proper pacing, but doesn’t going from 12 years of ZIRP to the fastest FFR rate of change since ‘81 seem dangerous on its face (especially after all the prior assurances and imposition of the HQLA requirements)? Unless I’m mistaken, despite the public getting the “Reserved” treatment, the Fed has at all times been privy to/had access to the unrealized losses on bank balance sheets.
Social media and bank run fuel must not be stored together.
Yes, the Fed printed too much for too long. And they were way behind the curve. The Fed is the culprit but not for raising rates. Besides real rates are still negative. The recession should clean the zombies out, the sooner the better. Dangerous for who? Not for the little guy Bailing out Wall Street at the expense of most Americans has gotten us into this mess.
Agree rates had to be raised and that positive real rates should be the goal.
As to dangerous for who, all who have been somewhat understandably caught offsides by the historic pace at which they were raised. Your initial point about the impossibility of determining the proper rate of rate increases is well taken. I agree. So, despite not being able to know what’s proper, they effectively chose *fastest ever*. And did so after a decade plus of the trend being 100% in the opposite direction (coupled with a massively indebted economy at all levels). Given those conditions, It seems axiomatic that something slower than *fastest ever* should have been the choice.
[Note, I’m not sure if it is since 1981 or fastest ever. I’ve seen both and have used both in my replies to you for ease of reference]
Fastest ever doesn't mean much to me. It's not like they raise rates 300 points in one meeting. There was a series of hikes spaced over months. They told everyone that they were going to raise rates; people didn't believe them. We've been in a bond bull market since the early 80s, not many investors have been through a rising rate environment. Hence, a lot of caterwauling.
temporary I hope? We need you on that wall now more than ever, Col. H.
Twitter's loss.
Losses are always zero sum, so if there are new domains beyond the comments of substack where i can find you lobbing your hilariously subversive hand grenades, please lemme know where. Nostr maybe? That said, if you’ve just decided to bask in the glory of a job well done, that’s fine too. Cheers.
And maybe the Austrian School was right again.
I agree with you that sitting around and calling SVB "idiots" is extremely one-sided. I begin to involuntarily smile every time I think of the Fed's promises and what they have done, and if you take that into account, then SVB is understandable. It was interesting to read your article.
Don’t forget that the laws requiring banks between $50-250bn in total assets undergo annual stress tests (which stress for all sorts of conditions including interest rate shocks and ramps) reported to the Fed were rolled back….
They really misjudged the duration of their liabilities and that’s the ultimate reason for their sudden death….
Hope you are well, Mike.
Grant
Well there is probably 4-7 trillion of mark to market losses in the global bond market from rising rates. the question is where it is all distributed, some of it is obviously on bank balancesheets (like we see with SVB), a lot of it is probably sitting in pensions as well.
One of the best write ups on the SIVB situation. Great forensics! Cheers.
"Given front-end yields were only 25bps, the management team naturally sought to make a bit more by tapping into longer-dated bonds which offered yields slightly above 1%."
Not so sure I would want them managing my money. Isn't that risking a lot to gain a little?
In hindsight, yes
If I had known beforehand that they could do such financial tricks for their own profit, I would never have trusted them with my money. It's a good thing I know that now.
Things are not supposed to be "obvious" before one makes a prudent decision to hedge. If this was all so predictable, and the Fed's fault, all banks would have done something similar and we are on the precipice of the failure of the entire banking system, no? If that is not what is going to happen, then this is SVB's fault. Suggesting that SVB had the right to believe the Fed's favorable statement on interest rate policy and commit to the HTM position and the loss of any opportunity to hedge is really writing them a blank check in the "excuses" department. Unfortunately for them and countless others, that check is going to bounce.
PwC's viewpoint provides guidance on the eligibility of held-to-maturity debt securities for designation as a hedged item in a fair value hedge. Since HTM securities are carried at amortized cost, they are obviously not eligible, but nothing in GAAP precluded $SIVB from swapping their HTM securities from fixed to floating...there is a difference between an economic hedge and an accounting hedge that is missed in this piece (respect MG, but he got this one wrong)...
Excellent.
Thank you Mike.
Accounting policy (non hedging of HTM)
at the fore again. A commonality of all crashes is they nearly all stem from behaviours driven by the non linearity of accounting rules.
Agree
Fantastic piece - how’s this for a summary:
Once a bank chooses HTM for underwater positions, they’re locked in for the hiking cycle like Major Kong riding the bomb in Dr. Strangelove.
https://youtu.be/3edi2Wkr5YI
Prof Plum, your analysis raises many good points, and I’d like to offer some others given SVB’s massive 2nd, 3rd, 4th order statistical sensitivities unique to their biz model.
For example, take your relationship between the IPO-deal data leading deposit flows. A key C-Suite job is understanding the balance sheet stock and flows and their dynamics. The 1st and 2nd deriv of IPO-deal volume suggested deposits may be at risk of not rising in the future. This was beginning in Q1 2021, a good 3-6 month lead. Additionally, if an outflow scenario were the case and the CEO wanted assets to be able to cover inevitable outflows...would I want to choose to be short a great deal of negative convexity with an MBS for an additional few basis points of a fixed yield? That’s called a Texas hedge.
Although the borrow short, lend long metaphor is generally true, SVBs highly idiosyncratic client base (invest for growth at all costs = negative cash outflows) adds some complication. These correlated liabilities mean their risk for withdrawals is highly non-linear relative to other diverse deposit cohorts. Coupled with 5x deposit growth and leading indicators suggesting increasing odds of withdrawals, how is the C-Suite managing their exposure to withdrawals? Therefore consideration of asset-mix that includes some offsetting non-linear payoffs and diversifying the correlated deposit base is critical. Perhaps, this was considered, unmanageable in the time available, or unknown entirely. Unfortunately, we do not know.
As to your point of the Fed’s actions being unprecedented, if I recall Volcker moved rates several hundred basis points in a much shorter timeframe? Or similarly, what happened to SVB deposits during dot com burst or GFC? It’s a fair point that the zeitgeist accepted the “transitory” or that gradual increases narratives were consensus. Nonetheless, I’m not sure ignoring other contingencies is a recipe for survival.
I don’t see how we can jump to conclude fault with the Fed when we haven’t ruled other possibilities given your evidence.
Keep in mind the truly unprecedented size and pace of the inflows. No management of any bank anywhere had seen this. There were no applicable models.
Correct Steve, that was the point of both deposits inflow growth of 5x in 1yr, leading indicators growth would not continue, and the unique type and correlated nature of its deposit base. All 3 combined suggest, that a slight change in direction could have outsized impact.
Sigma move from Jay Powell here - literally
This period of time really reminds me of the late '80's Savings & Loan crisis (remember the Keating 5?).
For most of the 80's, banks and s&l's paid very low rates on deposits, then money market funds were created, offering much higher deposit rates, and as money fled for higher returns, the banks and s&l's were forced to compete for deposits at higher rates, leading to the collapse of many s&l's.
Thank you for a great article. I'm more familiar with IFRS, but my understanding is that they could have still hedged properly although as you noted the hedge accounting option would not have been available. So the hedge would have been recorded on a different balance sheet line with gains/losses hitting the P&L as fair value changed. Overall though, they would've still be able to obtain the same cash flow profile and risk management outcome.
Needless to say I would have a problem with Management if they made hedging decisions based on accounting presentation instead of business need.
Goddamn Michael, you’re fantastic. While this bromance with your work won’t offer you productive push back, I had to say something. Keep up the incredible work you do. So so many appreciate your perspective and your willingness to share.
Excellent analysis. My Twitter feed is filled with hot takes just as everyone else's, and I've yet to see a single person blame the Fed. The only outlier is Chris Whalen who has laid this squarely at the Fed's doorstep. So you two are in agreement full agreement.