By now you know that Janet Yellen blinked and voted with the Fed board of governors to extend "too big to fail" protection to Silicon Valley Bank. Startup founders and VC investors alike are breathing a whole lot easier.
It's great timing. Over the weekend company after company had to email their customers begging not to be paid . . . they were afraid the transfers wouldn't clear after the bank got taken over on Friday.
After all, until Yellen and the Fed cast their votes, the Silicon Valley establishment was looking at seeing $170 billion in total deposits cut down to the regulatory $250,000 maximum per account holder.
Roblox had $150 million parked at the bank. Roku had about $450 million on the hook. And actual startups were suddenly having to scramble to make payroll.
Now everyone has access to their funds. Crisis solved. Unfortunately, Silicon Valley Bank still failed . . . and the financial community is still wondering who's next.
Signature has already gone down. Schwab stock dropped 22% in the past week as rumors circulate around what would happen if it had to sell its bonds on the open market to raise cash.
Personally, I think that narrative is extremely overstated. Schwab is doing fine. It passed the annual stress tests with flying colors, so we have plenty of transparency on that front, as opposed to Silicon Valley Bank, which was never considered "too big to fail" until now.
Unfortunately, Silicon Valley Bank's fatal bond sale also reveals that the current environment is creating strain that the stress test scenarios simply didn't contemplate. That's what we should be worried about.
Last year's "severe" scenario baked in a recession severe enough to wipe out inflation, giving the Fed leeway to keep overnight rates at zero. That, needless to say, did not happen.
Instead, the Fed went a lot farther in the other direction than the auditors anticipated. Even in the bullish scenario, overnight rates stayed around 1.5% and the 10-year bond went all the way out to 2.5%.
Weirdly, the scenario assumed the yield curve didn't invert despite the recession parameters. There's a lot of pain there for the banks that the tests didn't actually test.
If I were Janet Yellen, I'd rush out the next round of tests to see how the "too big to fail" institutions hold up under the actual conditions we're living through now. And then amp up the threats to get a real sense of how bad it could get.
Finally, I'd mark all reserve assets to market to see how much capital every institution actually has available in a crisis. Not just what the accountants say they can get away with . . . until they can't.
Bonds have been a miserable experience between the end of QE and competition from higher-coupon paper coming out now.
I don't know anyone who would buy long-term Treasury paying 1.5% to hold to maturity. Inflation is eating that yield alive. But the point of these assets is that they're theoretically liquid . . . as Silicon Valley Bank learned to its detriment.
We never got a stress test from them. We need better stress tests on everybody else who might be considered too big to fail.
Otherwise, they need to be allowed to fail. Remind your clients of the FDIC limits. Until they change, they still matter.