Banks are leveraged. Stuff happens.
The failure of Silicon Valley Bank took the world by surprise. It is why bank regulations are proper and necessary.
There is constant lobbying pressure from banks. They want looser regulation. They fight reserve requirements. Then they fail and they get bailed out because it is in the public interest to bail them out. It happens again and again. Bank failures involve more than the bank's managers and stockholders. Banks have customers and those customers have customers. Banks are like airplanes with passengers inside. If the plane crashes the passengers crash.
One view of the Silicon Valley Bank failure is that people "should have seen it coming." In that view, perhaps current laws and regulations are sufficient and we just need to do a better job of enforcing the regulations we already have. That is what the banks say in their lobbying, and that message finds fertile political ground among people who protest too much government regulation of business.
That is a mistake. Bank failures happen by surprise. If they were easy to avoid, banks would avoid them. Let me cite two pieces of evidence. One involves put options. Those are bets that a stock will fall below a certain price by a certain date.
Just hours before it was revealed Silicon Valley Bank – the 18th largest bank in the U.S. – is on the brink of bankruptcy, one options trader executed a trade that would turn $4000 into just over $1.2 million.
On Tuesday March 7 the trader purchased $4,000 worth of Silicon Valley Bank (NASDAQ: SIVB) put options with a strike price of $200, expiring on 3/17/2023. They took out all volume available at the 13 cents per contract asking price.
Just over 24 hours later on Wednesday, the bank announced it needed to undertake a $2.25 billion share sale (over one third of its market cap) to stave off bankruptcy. For that sole March 7 buyer of the SVB puts it was payday.
The $0.13 cent contract price of the puts exploded to $39.10.
There are lessons here. It could have been you that bought those options! Those 13-cent options were just laying there. If SVB's failure is obvious to you, why didn't you buy them? But you didn't know. That is the point. If "the public" had known, or if there were even a glimmer of a hint of suspicion, people would have scooped them up and driven the price way up.
Maybe that one person made a dumb-luck guess. That trade will be closely examined by the SEC. If the trade was done by an agent of a bank employee or regulator, the profit will be disgorged and the insider fired. But even then, the fact that the put options were essentially worthless, means that there was no sense of concern circulating about the bank. There could not have been even a glimmer of a hint of suspicion within the financially savvy and ultra-plugged-in tech community that banked there. Had there been, those puts would not have been priced at 13 cents.
TWO: The regulators didn't see it coming either. The Federal Reserve reported on the state of the economy and risks to the banking system when the loan portfolio of Silicon Valley Bank problem had already become a problem.
I draw a political and policy conclusion from this. Again, my thought is informed by the personal history I described yesterday of the clueless hubris of the nation's top bankers. They created and held mortgage loans that were toxic on the day they were issued. Citigroup, along with other mega-banks, was going broke and didn't know it. Being large did not make them smart or safe. Leveraged institutions like banks need guardrails. Regulations. They need to be stopped from taking risks that will seem entrepreneurial in the moment and foolish in hindsight.
Banks will complain. Of course. When times are good, bankers act like charged-up teenagers having fun, fun, fun with their daddy's T-Bird. The government cannot take the keys away. We need banks. But governments can require seat belts, airbags, and speed limits. And it can jail lawbreakers.
And don't trust that giant banks are too big and smart to get into the trouble smaller banks got into. We know better. We remember.
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7 comments:
There’s no question that regulations can be onerous and regulators can be obnoxious if they get out of hand, but there’s also no question that consumers and customers deserve protections. The nursing home industry, for example, is highly regulated and might even seem over-regulated until it’s your mother in one of them. The key, as with everything, is to try and keep it reasonable. It’s like the dynamic between business and labor – industry shouldn’t be allowed to wield all the power. When they do, workplaces can become hellholes.
Didn’t Enron used to tout that they were smarter than everyone else? It seemed like they were for a time, until it didn’t.
This seems to me to be a lot like the savings-and-loan crisis of the mid to late 1980s. I still miss Jackson County Federal Savings and Loan. And what about Crater Bank, Bank of Southern Oregon, Jefferson State Bank, and Premier West Bank? Peter, while you're at it explaining the demise of Silicon Valley Bank, would you consider explaining what happened to make these southern Oregon institutions fail? Do we have similar institutions like them that are now in business, here in our valley, that are headed in the wrong direction? Who lost and who (if anyone) gained from whatever it was that caused JCFSL, Premier West, and the like to fail? Did the same types of decisions that caused the demise of the savings and loans in southern Oregon also cause, say, Premier West to fail?
Is there a reason banks HAVE TO leverage loans? If loans weren’t leveraged, wouldn’t that make bank runs meaningless?
I guess without leveraged loans, banks could only make huge profits, though, rather than OUTRAGEOUS.
I’m no economic expert. Am I wrong?.
I think I should have said”reserve banking” So sorry.
Off topic: Looking forward to a blog about reparations. Should they be paid? Who should receive them? How much per person, family or group? Who should pay?
In addition to the descendants of former slaves, reparations also could be paid to any one whose family/relatives/ancestors experienced systemic discrimination and disenfranchisement, including: women, other racial and ethnic groups, LGBT, immigrants, religious minorities, disabled people, seniors/elderly people and poor people.
(Sorry, my grammar and spelling are getting worse.)
Anon, all those details will need to be worked out. It’s worth it
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