Is the Silicon Valley Bank failure 2008 all over again?

By Steven A. Morelli

Two phrases come to mind in the wake of the Silicon Valley Bank collapse – the first is “history does not repeat itself, but it rhymes.”

The failure of the 16^th-largest bank in the nation set off the usual shock waves and the typical “nothing to see here, folks” from officials. Despite reassurances from Treasury Secretary Janet Yellen that the collapse can be contained, investors such as Bill Ackman are saying that this is this era’s Bear Stearns, an investment bank that failed in August 2007, more than a year before the economic collapse in September 2008.

Silicon Valley Bank is also an investment bank holding more than $200 billion in assets and $175 billion in deposits at the end of 2022, before a bank run forced SVB to dump government bonds at a loss. It sounds a lot like Bear Stearns but with a key difference at this point – Yellen has said the federal government will not bail out the institution, although it will back deposits. The Federal Deposit Insurance Corp. covers up to $250,000 in deposits, but at least 90% of SVB accounts exceeded that.

Yellen: US will not bail out SVB

Yellen said on Sunday the federal government will not be bailing out SVB, which would be an echo of the Lehman Brothers failure, when the feds decided not to save the firm, a half year after they did bail out Bear Stearns by providing $29 billion to facilitate its sale to JPMorgan Chase.

“Let me be clear that during the financial crisis, there were investors and owners of systemic large banks that were bailed out,” Yellen said on CBS’ Face The Nation, “and the reforms that have been put in place means we are not going to do that again.”

That is another echo because in 2008 reforms were also in place, but not the ones that the system needed. In the late ‘90s under President Bill Clinton, the Depression-era Glass-Steagall Act to separate investment and savings banks was replaced by the Gramm-Leach-Bliley Act, which allowed the complex debt instruments that led to the system’s collapse.

In the present case, regulators learned in the 2008 collapse that there were institutions that were too big to fail, particularly the mammoth American International Group. Legislators set a threshold of $50 billion to be designated as a Systemically Important Financial Institution (SIFI) under the Dodd-Frank Act of 2010, which would subject the company to tighter scrutiny. In 2018, President Donald Trump signed legislation that raised the SIFI bar to $250 billion, cutting SVB from the SIFI designation even though it was a systemically important financial institution.

SVB was one of the institutions pushing for the change, with Fortune reporting that CEO Greg Becker argued as early as 2015 that the threshold should be raised because the higher regulatory cost stifled the bank’s ability to provide credit. SVB’s real problem was having too much cash and few places to invest the vast influx of tech money.

Here is where SVB ran into a problem created by the Federal Reserve, the skyrocketing interest rates, which devalued the piles of 10-year treasuries the bank had stacked up at historically low interest rates. The stress tests that would have been required under the original Dodd-Frank rules might have spotted that vulnerability.

Who’s naked?

The second phrase that comes to mind is “you don’t find out who’s been swimming naked until the tide goes out.” Warren Buffett said that in 1994, but it was popular in the wake of the 2008 collapse.

Why is that relevant now? Because the tide is definitely receding. On Sunday, New York shut down another institution, Signature Bank, which staggered after an SVB-inspired run on Friday. Signature was caught holding quite a bit of cryptocurrency business – 22% of its deposits were from digital-asset clients, according to The Wall Street Journal.

Signature was on was on shaky ground after the collapse of the crypto exchange and hedge fund FTX in November, which drained billions in Signature deposits.

When the bank failed on Sunday, it was billed as the second one to fall, but it was actually the third. Even before SVB’s collapse, another California bank, Silvergate, crashed under the weight of its crypto business. Crypto clients ran to get cash after the FTX collapse, forcing the bank to sell its depreciated securities.

Who else is swimming naked? Lots of attention has been focused on the trend of private equity in the life insurance industry, especially annuities. The trend has been accelerating with more offshore reinsurers backing and buying carriers with the flexibility of being able to make riskier investments with the cash on hand. But even established insurers have been looking for better returns with securitized debt – instruments that helped bring about the 2008 crash.

Regulators and legislators have been ringing the warning bell on reinsurers, with the National Association of Insurance Commissioners perennially trying to get its hands around the issue without stifling business. Lawmakers such as Sherrod Brown, D-Ohio, are encouraging the NAIC and the Federal Insurance Office to take a closer look at the private equity trend and control the risk-taking before it’s too late.

“FIO should work to examine the growth of offshore reinsurance markets and increased risk-taking behavior across the life insurance industry, which could contribute to increased systemic risk across the financial system,” Brown wrote to the FIO in his capacity as banking committee chairman last year.

When Buffett uttered the “swimming naked” line in 1994, he was talking about reinsurance. In his case, he was addressing Bermuda-based competitors in the property-casualty business (which has also been facing its stresses lately with its climate-related losses). But the concerns are similar about the risks taken with the cash on hand, particularly with bond speculation.

“The reinsurance business is by its nature will be a business in which very stupid things are done en masse,” Buffett said. “You could be doing dumb things and not know it in reinsurance and all of a sudden wake up and find out the money is gone.”

Steven A. Morelli is a contributing editor for InsuranceNewsNet. He has more than 25 years of experience as a reporter and editor for newspapers and magazines. He was also vice president of communications for an insurance agents’ association. Steve can be reached at [email protected].