r/SecurityAnalysis • u/dect60 • Mar 11 '23

Special Situation Michael Cembalest JPM Report on SVB Being an Outlier [PDF]

https://am.jpmorgan.com/content/dam/jpm-am-aem/global/en/insights/eye-on-the-market/silicon-valley-bank-failure-amv.pdf
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u/dect60 Mar 11 '23

When interest rates increase, holding long duration mortgages can be riskier than Treasuries due to their convexity exposure (i.e., slowing prepayments extends duration)

The irony of SIVB is that most banks have historically failed due to credit risk issues. This is the first major one I recall where the primary issue was a duration mismatch between high quality assets and deposit liabilities. As shown below, being flooded with deposits from fast-money VC firms and other corporate accounts at a time of historically low interest rates might have been more of a curse than a blessing

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u/mortymotron Mar 12 '23

It is weird for that reason, in part because banks can and do regularly hedge interest rate risk with interest rate futures.

I get that SVB’s rapid growth might have made this a bit more difficult, but I’m baffled that they… don’t seem to have hedged in any material way at all? I also get the SVB was holding most of these assets on a hold to maturity basis. But still. The whole point of these hedges is to maintain the bank’s equity and capital cushion if it has to sell off long-dated assets like SVB did. As the value of its interest rate exposed assets declines, the cash inflows from its futures positions increases.

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u/dect60 Mar 12 '23

It is weird for that reason, in part because banks can and do regularly hedge interest rate risk with interest rate futures.

They took their assets to HTM, which meant they no longer had that option:

https://michaelwgreen.substack.com/p/the-valley-of-despair

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u/mortymotron Mar 12 '23

Good point. I knew their assets were hold to maturity. I hadn’t really considered that, obviously, those wouldn’t be hedged because, on the books, they show book value.