Published On: March 13, 2023
Written by: Ben Atwater and Matt Malick
What have the bankers done this time around? Luckily, for now, the answer is fairly simple.
To be frank, all bank runs are fairly simple. Depositors get scared about a bank’s solvency, pull their deposits and leave the bankers with mismatched assets and liabilities, creating insolvency.
For banks, loans and securities are assets, while deposits are liabilities. A natural risk exists because deposits (liabilities) are callable on demand, whereas assets (loans and securities) normally have a set maturity date.
The root of the current problem goes like this. If a bank, such as Silicon Valley Bank, bought Treasury bonds back in January 2021 and those bonds mature in 2030, the bonds would have been worth 20% less than what the bank paid for them.
That is a big loss for a government guaranteed asset like a Treasury bond. As portfolio losses mounted, the bank’s depositors withdrew cash as rumors about the bank’s solvency began swirling.
We can assume then that many other banks have meaningful losses on their bond holdings and could be subject to a run. To address this issue, the U.S. Federal Reserve initiated a new program called the “Bank Term Funding Program (BTFP),” which allows banks to borrow unlimited amounts against a range of securities at par value. It means the Fed will lend the face value of a bond to make sure banks have enough cash to support deposits.
Par value is the amount of money that the issuer of a bond promises to repay bondholders at the maturity date of the bond. We normally refer to the par value as “100.” Think of that as cents on the dollar. For example, the Treasury bond we referenced previously would have a market value of 80, even though the bank purchased it for 100. However, it will still mature for 100 on its maturity date; 80 is simply the current market value.
In our client portfolios, we keep our maturities short. We buy bonds with the intention of holding them to maturity to realize their par value. We own no regional bank stocks as part of our core portfolio.
Therefore, although the environment for assets continues to be difficult into 2023, our investment process is continuing to hold up relatively well. Our insistence on being investors and not speculators and our commitment to highly transparent investing is working.
Bank failures aren’t going to make this year any easier, but it’s also impossible to know what the market has already priced in and what it hasn’t. We will continue to stick to our process without deviation.