Weekly Market Update March 17, 2023
Dow Jones Industrial 31,862 -0.1%, S&P 500 3,917 +1.4%,
Nasdaq 11,631 +4.4%, US Ten Year 3.4%, West Texas Intermediate $66.2
The S&P finished off the week up 1.4% in what has undoubtedly been the most event-heavy week of the year for markets. This past week saw the drama unfold real-time with the collapses of Silicon Valley Bank (SVB) and Signature Bank (SIG), the 2nd and 3rd biggest bank failures in U.S. history. This followed the closure last week of Silvergate Capital (SI). Each of these banks had distinct differences in their business operations, but SVB and SIG had enough in common to cause a panic in their deposit base and ultimately depositors ran to the exits. Silvergate and Signature both were highly exposed to the cryptocurrency sector, while Silicon Valley Bank had venture capital exposure and was a large lender to the wine industry. All of these banks faced substantial unrealized losses from holdings of long-maturity fixed-income securities, which are the most negatively impacted in a rising interest rate environment. The most common thread among these institutions was the loss of confidence by their depositors, leading to an old-fashioned bank run. (The chart below shows the largest 10 bank collapses in U.S. history)
Across media channels, comparisons were made to The Savings and Loan Crisis of the 1980s, the Tech Bubble Bust of 2000 and the Financial Crisis of 2008. While there are similarities between these past events and today, the U.S Financial System today is in a much different place than in any of these periods. U.S. Banks are better capitalized, corporate balance sheets are stronger, and the U.S. consumer is in a much better place than they were in the past. And most importantly the Fed has also shown a willingness to step in as quickly as possible to stem contagion. The pain of the past has helped the Fed to draw out a playbook in real-time, very, VERY quickly.
Does that mean we are out of the woods on this crisis yet? Absolutely not. As diverse and sophisticated as banks have become today, if there is panic among their deposit base, the narrative usually ends badly. If you want to examine what a bank run is at its most basic level, harken back to George Bailey in 1946’s classic “It’s a Wonderful Life.” (If you’ve got four minutes, give yourself some nostalgia here; you may be surprised at the similarities we witnessed this week). It is impossible to predict how much fear there may be among bank depositors, but as long as that fear is prevalent, the risk of other bank runs remains.
“The Money’s not here – it’s in Joe’s House, the Kennedy’s House and 100 others…”
George’s line to an anxious depositor in 1946 rings true for depositors at SVB, SIG and SI banks today. Panic from depositors (regardless of how well capitalized, well insured, and well-meaning management might be) is a death blow to banks. The only real difference in the old-time bank run of Bailey’s Building and Loan and what we saw this week is the speed at which depositors can now withdraw their funds. The modern day “Twitter bank run” ends up in the same place as the old-fashioned bank run of the 40’s – just much faster.
The good news is that U.S. banks are MUCH more well-capitalized than they have ever been. The chart below shows the average “Tier 1 Capital Ratio” (blue line) of U.S. banks, along with the share of institutions not well capitalized (orange bars). The Tier 1 Capital Ratio is a measurement of a bank’s core equity capital as a percent of its “risk weighted assets.” In other words, it is a measure of a bank’s financial strength and how well a bank can withstand financial stress – the higher the ratio, the better.
As you can see, the blue line has been hovering close to 12% for some time, which is much higher than what we saw back in 2008. And the percentage of institutions that are not well capitalized is lower than it has ever been. The risk of all-out “contagion” today in the banking sector is much more remote than it was 2008, 2000, or the 1980s. But this does not mean there aren’t banks out there that are still at risk. If you own bank shares as we do, make sure you own well-capitalized and well-run institutions that manage assets and liabilities effectively (one of the first metrics we investigate when evaluating a bank’s common stock for investment). These financial institutions will be the ultimate beneficiaries of these most recent bank-runs and will put their shareholders in a position to have a Wonderful Life.
Have a great weekend,