Key Points
- We think the issue that brought Silicon Valley Bank (SVB) down was specific to smaller US banks. We do not expect similar issues to flare up in the wider global banking sector, as the balance sheets and liquidity positions of larger US and European banks remain strong.
- In our view, the collapse of SVB was largely symptomatic of two key factors: central-bank tightening to address inflation and light-touch regulation of smaller US banks.
- We believe opportunities remain within financials, and market volatility can provide the possibility to buy high-quality companies at attractive valuations.
No More Easy Money
In our view, the collapse of Silicon Valley Bank (SVB) was largely symptomatic of two key factors. The first of these is central-bank tightening to address inflation. The last decade saw a flood of easy money and low interest rates, and during that period interest-rate risk was not an issue banks had to face. Now, however, with interest rates higher, it is a different story.
US banks saw a large inflow of deposits during the period of quantitative easing following the Covid pandemic. Due to low loan demand, some banks invested these deposits into long-dated securities. The onset of quantitative tightening from the US Federal Reserve and the availability of better rates elsewhere led to deposit outflows for some of these banks, creating liquidity issues. In our view, the mistake these banks made was not to hedge their interest-rate risk because they were not forced to do so.
Regulatory Questions
The second key factor that we believe played a part in SVB’s collapse was light-touch regulation in the US around smaller banks. Banks with assets of less than US$250bn in the US have lighter regulatory requirements, including no obligation to participate in stress tests, and they have lower capital and liquidity requirements.
At the other end of the scale, we believe large US banks are in a much better liquidity position given that they are subject to tighter regulations and, after recent events, are seeing inflows of deposits. In Europe, meanwhile, there are stricter regulations around liquidity, including the Liquidity Coverage Ratio and Net Stable Funding Ratio that European banks must adhere to. This is important to bear in mind in the context of recent European banking share-price volatility, with some company-specific issues also playing their part.
In the wake of SVB’s collapse, we think there is likely to be a regulatory tightening with regards to how the smaller banks manage interest-rate risk, and an extension of the stress-testing regime to smaller US banks.
We believe that changing interest-rate expectations, negative sentiment, the potential impact on credit availability, and some company-specific issues have been drivers of volatility over the last week.
A Buying Opportunity?
Nevertheless, despite the SVB episode, we believe that numerous opportunities remain within financials. In our view, large-cap US and European banks do not have the same issues that SVB faced. There are some emerging-market economies where inflation is under control and banks are profitable. Exchanges are benefiting from volatility in financial markets.
At times like these, it is easy to focus on the negative aspects, but we believe such events provide opportunities to buy high-quality companies at attractive valuations, and we believe this is exactly when it is important to look for those opportunities rather than avoiding risk completely.
Authors
Vivek Gautam
Global research analyst, Fundamental Equity team
PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS. Any reference to a specific security, country or sector should not be construed as a recommendation to buy or sell this security, country or sector. Please note that strategy holdings and positioning are subject to change without notice. For additional Important Information, click on the link below.
Important information
For Institutional Clients Only. Issued by Newton Investment Management North America LLC ("NIMNA" or the "Firm"). NIMNA is a registered investment adviser with the US Securities and Exchange Commission ("SEC") and subsidiary of The Bank of New York Mellon Corporation ("BNY Mellon"). The Firm was established in 2021, comprised of equity and multi-asset teams from an affiliate, Mellon Investments Corporation. The Firm is part of the group of affiliated companies that individually or collectively provide investment advisory services under the brand "Newton" or "Newton Investment Management". Newton currently includes NIMNA and Newton Investment Management Ltd ("NIM") and Newton Investment Management Japan Limited ("NIMJ").
Material in this publication is for general information only. The opinions expressed in this document are those of Newton and should not be construed as investment advice or recommendations for any purchase or sale of any specific security or commodity. Certain information contained herein is based on outside sources believed to be reliable, but its accuracy is not guaranteed.
Statements are current as of the date of the material only. Any forward-looking statements speak only as of the date they are made, and are subject to numerous assumptions, risks, and uncertainties, which change over time. Actual results could differ materially from those anticipated in forward-looking statements. No investment strategy or risk management technique can guarantee returns or eliminate risk in any market environment and past performance is no indication of future performance.
Information about the indices shown here is provided to allow for comparison of the performance of the strategy to that of certain well-known and widely recognized indices. There is no representation that such index is an appropriate benchmark for such comparison.
This material (or any portion thereof) may not be copied or distributed without Newton’s prior written approval.
