Blame traditional finance for the collapse of Silicon Valley Bank
The entire banking concept is based on the assumption that depositors will not want to withdraw their money at the same time. But what happens when this assumption fails? The answer lies in the asset-liability mismatch of banks, which can lead to disastrous consequences for the broader financial system.
Silicon Valley Bank (SVB), one of the leading banks for startups and venture capital firms in the United States, failed because of a liquidity crisis that has reverberated throughout the startup ecosystem. Silicon Valley Bank’s struggles shed light on the many risks inherent in banking, including mismanaging the economic value of equity (EVE), failing to hedge interest rate risk, and a sudden outflow of deposits (funding risk). Risk arises when a bank’s assets and liabilities are not properly aligned (in terms of maturity or interest rate sensitivity), leading to a mismatch that can cause significant losses if interest rates change.
The failure to hedge interest rate risk leaves banks vulnerable to changes in the market that can erode profitability. Funding risk occurs when a bank is unable to meet its obligations due to an unexpected outflow of funds, such as a run on deposits. In SVB’s case, these risks combined to create a perfect storm that threatened the bank’s survival.
Related: Silicon Valley Bank was the tip of a banking iceberg
SVB recently made strategic decisions to restructure its balance sheet, aiming to take advantage of potential higher short-term interest rates and protect net interest income (NII) and net interest margin (NIM), all with the goal of maximizing profitability.
NII is a crucial financial metric used to evaluate a bank’s potential profitability, representing the difference between
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