Talking Points This Week: Why SVB Trumped Jerome Powell In Significance

Every week, Niraj Shah studies how top business leaders and market makers are navigating the fast-changing financial landscape.

<div class="paragraphs"><p>Source: Unsplash</p></div>
Source: Unsplash

Jerome Powell's testimony brought hawkishness back into vogue. Before his prepared address in front of the U.S. Senate Housing Committee, the President of the Federal Reserve said the following:

"The latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated. If the totality of the data were to indicate that faster tightening is warranted, we would be prepared to increase the pace of rate hikes. Although inflation has been moderating in recent months, the process of getting inflation back down to 2% has a long way to go and is likely to be bumpy."

The markets duly reacted on Tuesday. The Dow Jones Industrial Average closed 570 points lower and turned negative for 2023. The yield on the two-year Treasury note topped 5% for the first time since 2007 and resulted in a steep inversion of the yield curve. Oil fell by $3 per barrel as investors braced for steeper U.S. rate hikes, staying on course for losses for the week. All these resulted in large losses in markets across the world. It now seems almost obvious that there will be no tinkering with rates in 2023. The bigger question, which I posed in last week's column as well, is whether the 'new normal' of low rates was indeed a new normal or a long aberration. And will we now be in an era where rates are above the 3% mark even if inflation edges lower? Remember, a central bank once scarred might change tact very slowly, only if needed.

However much, this was the bigger impact news. The show was stolen by a bank in the U.S., which could become a pain point for the startup world in the U.S. and connected banks in the country.

Silicon Valley Bank—Collateral Damage

So what is going on with Silicon Valley Bank? A small explanation—the California-based lender to startups tumbled 60% on Thursday, taking with it its larger peers. Late on Friday, the bank collapsed and entered regulatory receivership.

However, as Robert Burgess of Bloomberg noted, the Santa Clara, California-based bank isn’t exactly a household name, and it’s certainly not big enough to spark a national banking crisis. With around $212 billion in assets, it’s less than a 10th the size of JPMorgan. In fact, it has a very niche business, which is mainly financing technology-related startups. Then, what happened? Here's a small explanation and the possible aftermath of what promises to be the unknown risk of 2023.

In 2021, SVB saw a mass influx in deposits, which jumped from $61.76 billion at the end of 2019 to $189.20 billion at the end of 2021. As deposits grew, SVB supposedly could not grow their loan book fast enough to generate the yield they wanted to see on this capital, as a result of which they purchased a large amount of over $80 billion in mortgage-backed securities, or MBS, with these deposits for their held-to-maturity, or HTM, portfolio.

Now, as the Fed raised interest rates in 2022 and continued to do so through 2023, the value of SVB’s MBS plummeted. It is not a solvency issue, though. But the unpleasant surprise was that Silicon Valley Bank’s parent said on Wednesday that it had sold about $21 billion of securities from its portfolio, which will result in an after-tax loss of $1.8 billion for the first quarter, and that they were raising another $2.25 billion in equity and debt. While we know that having to raise money on short notice never looks good for a bank, what seemed to surprise everyone was the reason SVB gave for needing to raise capital—those startups with deposits at the bank are pulling cash out. The issue prompted Peter Thiel’s Founders Fund and other prominent venture capitalists to advise portfolio businesses to withdraw their money, even as the bank urged calm. One hopes this gets contained soon and this does not become the Evergrande moment for 2023, more so for the startup world.

The Juggernaut Rolls On

India and Australia are planning new military drills to strengthen security cooperation as Prime Minister Narendra Modi turned on the charm to welcome his counterpart to the South Asian country for a first official visit.

Separately, India and the U.S. will sign an agreement to boost coordination of their chip industry incentive plans and are discussing the best ways to avoid over-subsidisation as India looks to boost its role in the global technology supply chain. The memorandum of understanding focuses on information sharing and policy dialogue, as per Gina Raimondo, U.S. Secretary of Commerce.

And in corporate news, Apple is reshuffling management of its international businesses to put a bigger focus on India, according to people with knowledge of the matter, a sign of the nation’s growing importance. From Apple's perspective, the shift will mark the first time that India becomes its own sales region at Apple, which has seen demand surge in the country. That will give India increased prominence inside the tech giant, according to the people, who asked not to be identified because the move hasn’t been announced, as per Bloomberg. What started off as soundbites in Davos is slowly coming to life in various ways.

By The Way

Instead of buying the index in 2008, should investors have bought watches? Well, as per a story on Bloomberg, prices for Rolex, Patek Philippe, and Audemars Piguet watches have appreciated by an average of 20% a year since mid-2018, outpacing the S&P 500 Index as values for pre-owned luxury timepieces surged.

A new report from Boston Consulting Group Inc. and secondary market dealer WatchBox shows that the S&P 500 stock index averaged annual returns of 8% from August 2018 to January 2023, while a basket of pre-owned watch models from top Swiss brands grew at more than twice the pace. Watch the watches. 

(Updates an earlier version to incorporate the news of Silicon Valley Bank's collapse)

Niraj Shah is Executive Editor at BQ Prime.