Peter Brooke 00:00
Good day. I'm Peter Brooke, a Portfolio Manager at the Old Mutual Investment Group. This is Macro Perspective 11 of 2023, and I want to talk about SVB, or Silicon Valley Bank.
For those of us scarred by the global financial crisis, who can't remember the Canaries of Northern Rock and Bear Stearns? Smaller banks going bust on the way to the crash are signals one can't ignore. And this is why the failure of SVB, followed swiftly by Signature Bank, has wreaked havoc in global markets and bank shares in particular in the last week or so. However, while history rhymes, we don't think this is a repeat, and don't expect another global financial crisis.
Peter Brooke 00:43
Firstly, just in terms of the facts. SVB bankrupted itself by mismatching its assets: long-dated treasury bonds bought at the highs, with its liabilities, large liquid deposits from venture capital companies that could move quickly. This is a failure of banking 101 rather than a credit event. And in fact, this represents one of the worst macro trades of all time, buying long-dated US bonds at the end of a 40 year bull market, funded by a boom and venture capital deposits into a tech small cap bubble. As an aside, we are underweight US small caps growth shares, and this justifies our view. The bond purchase created a capital loss, and the deposit shrank as the easy money environment tightened with Fed interest rate hikes. As Silicon Valley Bank tried to raise capital, deposits fled, with an interesting aspect of this bank run being the speed. We have moved into a digital world with no banks to queue outside.
Peter Brooke 01:51
Now, bank runs are always dangerous. Although we are pleased that the Fed has acted quickly to minimize contagion through guaranteeing the deposits. But I think the difference this time is the fundamentals are better. There's higher regulatory hurdles, including much higher capital adequacies all around the world. In addition, household credit to GDP is also lower. And households are generally in a strong position as governments took the burden of Covid onto their balance sheets, and the risk actually is in government debt.
Peter Brooke 02:24
Finally, the lesson of bad banks is that they help good banks as money flows towards safety. Therefore, we think the wholesale selling out of bank shares in a replay of the global financial crisis is incorrect. But where we are concerned is about the impacts of tighter liquidity. And this is really what this is a message of. The bankruptcy of Silicon Valley Bank, the problems in Sri Lanka, then Ghana, now Pakistan, I'm pretty sure when you start seeing things like the Malbec index for Argentina where they're trying to manipulate their foreign exchange. These are all indicators, as was the destruction of crypto, all indicators of tighter liquidity. And this is the impact of more than 420 interest rate hikes over the last two years. So, we expect further pain ahead until inflation has tamed.
Peter Brooke 03:20
One interesting aspect of this SVB bankruptcy is that it brings us economic pain forward as banks now tighten up their lending standards, doing the work of central banks. As a result of this tighter liquidity, we are defensively positioned with more cash and bonds and less equity than our strategic benchmarks in our portfolios. And I think the difference in terms of this time versus the GFC is that we'd be looking for opportunities to put that money to work a bit earlier.
I hope you enjoyed this perspective. I'm on leave next week, so there won't be a voice note then, and we'll catch up in two weeks’ time. Thanks a lot.