How can supposedly clever people be so dumb?
Discussion
Silicon Valley Bank collapse.
Deposits grew from $62bn in 2019 to $173bn at the end of last year.
The bank was unable to lend out these funds at the same frantic pace with which they came in.
Instead, the company invested in long-term debt securities related to government bonds and US mortgages.
There is a very simple correlation with long-term government bonds (gilts) and also many corporate bonds.
The yield and value move inversely.
When general interest rates rise, because the yield returns from gilts are usually fixed, the prices reduce to compensate.
The opposite also occurs.
Not difficult to understand, after working through a few examples.
The thing with this, remembering that rule, is would you invest in long-term gilts during a time of record low interest rates, when at some point, interest rates are far more likely to increase than fall further ?
The Bank of England base rate was running at 0.1%. Fairly unlikely to go lower, so upwards surely had to eventually be the expected move.
Now at 4%, so a huge percentage increase has occurred.
I wondered why the HSBC share price fell significantly on Friday. Now I know. I would doubt that they made the same mistake though.
Very funny how the chief executive of Silicon Valley Bank, told tech industry bosses in a private phone call on Thursday,
“We have been long-term supporters of you – the last thing we need you to do is panic.” -
Did he really think that would stop customers trying to withdraw their money ?
Reminds us of Northern Rock.
https://12ft.io/proxy?ref=&q=https://www.teleg...
Easy with hindsight though ?
Not many people were suggesting that the 60/40 model was wrong for pensions a year ago. Most 'safe' funds seem to have lost more than their more adventurous counterparts over the same period.
Anyway, is that all there is to it ? Whilst those asset classes have underperformed, surely that's not enough to sink SVB ? or is it just the inevitable run that will do it ?
Not many people were suggesting that the 60/40 model was wrong for pensions a year ago. Most 'safe' funds seem to have lost more than their more adventurous counterparts over the same period.
Anyway, is that all there is to it ? Whilst those asset classes have underperformed, surely that's not enough to sink SVB ? or is it just the inevitable run that will do it ?
Government bonds probably looked like a prudent diversification compared with their relatively high risk lending to start-ups.
My own bond investments are uncomfortably under water but they will look like a stroke of genius if equity markets take a tumble.
There are never any prizes for 20:20 hindsight.
My own bond investments are uncomfortably under water but they will look like a stroke of genius if equity markets take a tumble.
There are never any prizes for 20:20 hindsight.
Panamax said:
Government bonds probably looked like a prudent diversification compared with their relatively high risk lending to start-ups.
My own bond investments are uncomfortably under water, but they will look like a stroke of genius if equity markets take a tumble.
There are never any prizes for 20:20 hindsight.
My own bond investments are uncomfortably under water, but they will look like a stroke of genius if equity markets take a tumble.
There are never any prizes for 20:20 hindsight.
That was precisely the point I was trying to make.
No hindsight was involved at all.
1. When general interest rates rise, long dated gilt/bond values fall. Simple arithmetic.
No one pays an excess price for a lower interest return, so that is what makes the inverse relationship operate.
2. When the Bank of England base rate was running at 0.5% and 0.10%, the lowest for 300 years, which way was it going next?
There were no prizes for saying up.
Going up would be a certainly eventually, however the entirely unknown aspect was when would that happen.
No one knew that and it took a surprisingly long time to occur. Finally happened in 2022.
That period went on for such a long time, perhaps some people became quite used to those low interest rates being normal.
Very dangerous, if borrowing was excessive.
Financial product sellers seem to associate long-dated gilts/bonds as safe assets.
I suppose people are willing to believe that, but buying when interest rates were 0.1% was obviously inviting an eventual loss, if still held when interest rates began to rise.
Holding to the maturity date is different, a gilt is then completely safe, because the entire interest and repayment transaction is known, 'stated on the certificate'.
You can still lose money through inflation, but let's leave that aside.
I guess many investors probably have no understanding at all, about the risk involving the simple inverse relationship between price and yield.
( 'equity markets take a tumble' ) Great - the last cheap buying opportunity of that kind, was in March 2020.
The pandemic fright collapse.
Panamax said:
My own bond investments are uncomfortably under water but they will look like a stroke of genius if equity markets take a tumble.
There are never any prizes for 20:20 hindsight.
Mine too, a chunk of my pension which I've been waiting for the right moment to take, is in bond funds.There are never any prizes for 20:20 hindsight.
My fault for not knowing what I think I know now. The bond crash does look blindingly obvious.
Sheepshanks said:
Mine too, a chunk of my pension which I've been waiting for the right moment to take, is in bond funds.
My fault for not knowing what I think I know now. The bond crash does look blindingly obvious.
My fault for not knowing what I think I know now. The bond crash does look blindingly obvious.
Wonder if perhaps a working example, might be helpful to explain the inverse aspect.
These are purely figures to illustrate. Would take too long to look up exact figures.
20 year Government Stock 3% (bonds work in a similar way).
Figures are per £100.
Say issued in 2010.
When bought, 3% interest is paid annually, then £100 is paid back in 2030.
The price will move throughout those 20 years, mainly taking into account prevailing interest rates.
If prevailing interest rates are say 1.5%, then paying £100 to buy would be too good to be true, because you would receive 3% interest every year. Therefore you have to pay quite a lot more than £100 to buy, so that the interest you receive equates closely to prevailing interest rates.
Say you pay £200 for the (nominal £100) then you would be receiving your £3 annual interest (and £100 repayment in 2030).
£3 being equivalent to 1.5% of what you paid, which is our example prevailing interest rate.
Paid £200, but then prevailing interest rates move up to say 3%.
No one is now going to buy that for £200, because their return is only 1.5%.
So the trading price might fall from £200 to £100, then buyers would be receiving interest of £3 per annum, which again matches the prevailing interest rate (now 3%).
The prevailing interest rate has risen from 1.5% to 3% (plus 100%) and the government stock value falls from £200 to £100 (minus 50%).
A very simplified example, but hope that might help to explain why bond values come down, when interest rates go up.
( There are other aspects involved in the actual pricing of these assets. )
Nurse says, writing this stuff keeps my brain nimble. -
Carbon Sasquatch said:
Easy with hindsight though ?
Not many people were suggesting that the 60/40 model was wrong for pensions a year ago. Most 'safe' funds seem to have lost more than their more adventurous counterparts over the same period.
Anyway, is that all there is to it ? Whilst those asset classes have underperformed, surely that's not enough to sink SVB ? or is it just the inevitable run that will do it ?
Yes there's more to it, it was compounded because their typical customer is also heavily exposed to rate rises because it's killed their investors and they're all burning capital to stay alive.Not many people were suggesting that the 60/40 model was wrong for pensions a year ago. Most 'safe' funds seem to have lost more than their more adventurous counterparts over the same period.
Anyway, is that all there is to it ? Whilst those asset classes have underperformed, surely that's not enough to sink SVB ? or is it just the inevitable run that will do it ?
paulrockliffe said:
Yes there's more to it, it was compounded because their typical customer is also heavily exposed to rate rises because it's killed their investors and they're all burning capital to stay alive.
Yeah - I read a bit more about it - seems they are mostly large depositors too, well larger than normal, so the FDIC guarantees don't apply. Therefore they are much more motivated to withdraw their money than 'normal' customers of a 'normal' bank.Still an obvious in hindsight one though IMHO.
In 2008, the Northern Rock bank collapse was a prelude to the global financial crisis.
In 2023, the Silcon Valley Bank collapse ...........................................................................
We will soon find out whether those dots have a sinister meaning.
It is all very well for us to say, "A crash is an opportunity to buy parts of good businesses at cheap prices", but there are many people who suffer badly during financial crashes.
If anyone thought that we could gracefully exit from more than ten years of near-zero interest rates, eager borrowers, unlimited amounts of printed money and double-digit inflation, without any form of pain, they don't understand much about finance or economics.
On Monday the markets might be very jittery, as a result of the Silicon Valley Bank collapse. The biggest banking crash since 2008.
Each collapse can be explained on its own. But they all have a common thread. In the background, central banks, led by the Federal Reserve, have been rapidly raising interest rates, unwinding and in some cases even reversing, quantitative easing. The easy money era was being brought to an end. The result? A collapse in bond prices. That caught out Silicon Valley Bank, with huge losses on its portfolio. It caught out the pension funds, with LDI’s that assumed bond yields would never rise (mugs). And the draining of liquidity, and the return of genuine yields on real assets such as Treasury bills, crashed the price of flimsier alternatives such as Bitcoin, triggering the crisis at FTX.
The circumstances varied. Yet in each case, the tightening of monetary policy was the root cause, and while base rates were running at a record 300 year low, how could an increase not have been expected to happen eventually? Many market participants must have known that, but while those good times continued, I suppose they just wanted to carry on as before and their clients believed what they said.
It will be interesting to see what happens during the coming business week.
Yes it was dumb.
Surely you’d run with short treasuries with lots of overlap and a cash cushion, so it’s all redeemable without such exposure.
What they may have lost on yield they’d have gained on recent rate rises.
And their depositors don’t need ROI or even inflation protection. They just needed security.
So was this really just good old greed?
And where was the regulator?
Surely you’d run with short treasuries with lots of overlap and a cash cushion, so it’s all redeemable without such exposure.
What they may have lost on yield they’d have gained on recent rate rises.
And their depositors don’t need ROI or even inflation protection. They just needed security.
So was this really just good old greed?
And where was the regulator?
I read on Twitter, so it must be true, that a large number of their big customers (who had personal and business accounts) were all in some big WhatsApp group chat for movers and shakers and someone started rumours of the bank collapse, so they all rushed to move their money out, causing the run on the bank, and at the same time buying up shares on the cheap hoping to make a fortune if the bank survived.
Truckosaurus said:
I read on Twitter, so it must be true, that a large number of their big customers (who had personal and business accounts) were all in some big WhatsApp group chat for movers and shakers and someone started rumours of the bank collapse, so they all rushed to move their money out, causing the run on the bank, and at the same time buying up shares on the cheap hoping to make a fortune if the bank survived.
Peter Thiel....https://www.businessinsider.com/peter-thiel-founde...
Carbon Sasquatch said:
paulrockliffe said:
Yes there's more to it, it was compounded because their typical customer is also heavily exposed to rate rises because it's killed their investors and they're all burning capital to stay alive.
Yeah - I read a bit more about it - seems they are mostly large depositors too, well larger than normal, so the FDIC guarantees don't apply. Therefore they are much more motivated to withdraw their money than 'normal' customers of a 'normal' bank.Still an obvious in hindsight one though IMHO.
I expect that this means that many companies were being forced to use the bank by their funders and also that they have a concentration of loans against junk companies that were never going to get beyond $20 a share and have been tanked to $10 in the last few months.
And of course VCs were talking to each other about what was going on, which would have created a coordination as a by-product. What may be the bigger issue is that it looks like VCs have then shilled the Fed a false story about contagion to get these dodgy loans bailed out so they can continue accessing their Private Jet loan instrument and the Fed bought it hook line and sinker.
Jon39 said:
That was precisely the point I was trying to make.
No hindsight was involved at all.
1. When general interest rates rise, long dated gilt/bond values fall. Simple arithmetic.
No one pays an excess price for a lower interest return, so that is what makes the inverse relationship operate.
2. When the Bank of England base rate was running at 0.5% and 0.10%, the lowest for 300 years, which way was it going next?
There were no prizes for saying up.
Going up would be a certainly eventually, however the entirely unknown aspect was when would that happen.
No one knew that and it took a surprisingly long time to occur. Finally happened in 2022.
That period went on for such a long time, perhaps some people became quite used to those low interest rates being normal.
Very dangerous, if borrowing was excessive.
In 2009 with the UK base rate at 0.5%, you may have thought they could only go up. Well you would have been wrong because the next move was down to 0.25% in 2016.No hindsight was involved at all.
1. When general interest rates rise, long dated gilt/bond values fall. Simple arithmetic.
No one pays an excess price for a lower interest return, so that is what makes the inverse relationship operate.
2. When the Bank of England base rate was running at 0.5% and 0.10%, the lowest for 300 years, which way was it going next?
There were no prizes for saying up.
Going up would be a certainly eventually, however the entirely unknown aspect was when would that happen.
No one knew that and it took a surprisingly long time to occur. Finally happened in 2022.
That period went on for such a long time, perhaps some people became quite used to those low interest rates being normal.
Very dangerous, if borrowing was excessive.
In 2018 with the interest rate at 0.75%, you may have thought they could only go up. Well you would have been wrong because by March 2020 they were down to 0.1% in 2020.
We can discuss over exposure and bad risk management but I don't see how we can say that interest rate & bond yield changes are predictable enough for bank and pension funds to take bets on them.
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