News of the failing banks: Credit Suisse, Silicon Valley Bank (SVB), plus First Republic and Signature Bank, has sent shockwaves around the globe. With the closure – and now bankruptcy – of SVB being touted as “the biggest failure of a US bank since the global financial crisis”, the collapse of three US banks plus global banking giant Credit Suisse – all in little over one week – have justifiably shocked the banking and financial sectors. What suddenly happened to cause these banks to fail so dramatically? What’s next for the banking sector? And, for those investors who moved quickly to withdraw deposits or sell their shares before it was too late, the big question is: where can they safely invest their capital now?
There are three main questions to answer: What happened, and why? What effect are these failures having on our trust in the banking sector? What alternatives are there for investors now?
What happened and why?
This is a difficult question to answer because there is no one answer – the banks involved were very different, and the reasons for their failure are varied and not necessarily indicative of any widespread weakness in the banking system. Credit Suisse is one of 30 elite banking institutions designated as “globally systematically important banks (G-SIBs)” that are deemed “too big to fail.” Credit Suisse shares this elite status with institutions such as JP Morgan Chase, Bank of America, Deutsche Bank, Goldman Sachs, and HSBC, to name but a few, and it is the second-largest bank in Switzerland. Its failure, had it been allowed to happen, would have had a devastating effect on global markets and on public trust in banking. Arguably, Credit Suisse’s problems are therefore far more significant than those of the three US banks: SVB, First Republic and Signature Bank. Yet these banks’ difficulties have caused as much consternation, and understandably so.
Why did Credit Suisse fail?
Apparently, the red flags had been visible for quite a while – the bank had been “hemorrhaging money” for years and was considered the “weakest link among Europe’s large banks.” Among other challenges, it had also been plagued with compliance scandals and the loss of a major US hedge fund. The current situation should not, therefore, have come as a shock.
A $54 billion liquidity-assuring loan from the Swiss Central Bank did little to counteract the ‘jitters’; the bank continued to experience massive withdrawals in just days and its share price continued to tumble. However, Swiss financiers, with government backing, acted fast and as of Sunday evening, a takeover by UBS, Switzerland’s largest bank, has been agreed with the hope of restoring consumer confidence. Nevertheless, the takeover has drastically reduced the value of Credit Suisse shares, down 60% on Monday, while UBS shares dropped 7%, not really comforting news for investors.
Additionally, Credit Suisse bondholders were wiped out to the tune of $17 billion and are threatening legal action. Still, the takeover has likely had the desired effect in terms of restoring a measure of public confidence; the news was welcomed by central banks in the US, UK and Europe with the insistence that banking systems in their respective jurisdictions were “strong and resilient.” The message is loud and clear – no need for panic, Credit Suisse was a one-off crisis that has been successfully dealt with.
Why did SVB fail?
SVB is a very different case and has now declared bankruptcy; government intervention offers some protection to insured depositors; but insurance only covers $250,000 and we can assume that many of SVB’s clients had deposits far greater than that amount. On Friday March 17, SVB Financial Group – up until the previous week the owners of SVB – filed for Chapter 11 bankruptcy protection. What happened? There are many theories and likely many contributory factors; deregulation, mismanagement, and rapidly rising interest rates to name a few. SVB negotiated itself a five-year exemption from regulations put in place to prevent banks using deposits to invest in high-risk venture capital funds and continued to maintain such investments. Additionally, in 2022, the bank opted not to hedge its bets on interest rates, likely another key factor in its downfall.
Why did First Republic fail?
Following a 30% drop in its share price due to “liquidity fears,” First Republic was quickly rescued by a $30 billion deposit made by 11 of the nation’s largest banks. A bailout that was intended to stop the panic and any future bank runs.
Why did Signature Bank fail?
Signature Bank had made a recent switch to investing in crypto currency; then investors, likely panicked by the collapse of SVB, withdrew $10 billion in deposits from Signature Bank, causing liquidity issues for the bank, and forcing the intervention of state regulators.
What effect are these failures having on our trust in the banking sector?
The most obvious answer is panic, and the effects of that panic on the markets. Any hint that a bank is struggling is enough to cause widespread jitters; even when, as in the case of Credit Suisse, liquidity has been assured, share prices may continue to fall, even after a successful takeover. The failure of a bank as big as Credit Suisse has global implications; hopefully, the hastily agreed takeover by UBS has allayed that panic, but at no small cost to its shareholders – or bondholders.
When SVB closed its doors to its customers only to declare bankruptcy just one week later, panic again ensued. The obvious fear is that these banks will be just the first of many – the beginning of a nationwide, or even global, slide. Shadows of the 2008 crisis loom large and confidence in the banking sector is far easier to destroy than it is to regain. The reasons for the failures barely matter now, outside of the individual institutions, and their depositors and shareholders – psychologically, the damage is done. Stock markets experience increased volatility, investors see potential losses. Those who managed to withdraw their money before it was too late will be looking for safer investment options, leaving the door wide open for alternative investment vehicles to capitalize on this opportunity.
What alternatives are there for investors now?
While we are constantly reassured that we are not facing another 2008 crisis, it is understandable if people are left with serious decisions to make about future investments. Faced with the possibility, no matter how remote, of further banking crises, investors are more likely to turn to alternative investments such as commercial real estate. But the high-net-worth investors that have withdrawn their deposits from Credit Suisse or SVB are unlikely to be interested in flipping houses or investing in rental properties and dealing with tenants and leases. Investors looking for capital growth and reliable high returns, will probably be seeking out hassle-free investments that provide a reliable, passive income. One area of interest for this type of investor is private lending, which offers all the benefits of active real estate investment, with minimal headaches, and gives investors the advantage of predictable cash flow.
But why would investors want to become lenders if the major banks are seen to fail at it? Because private lenders have choices and advantages that the banks don’t:
- They can pick potential borrowers carefully and often do so on an individual basis.
- They don’t have to answer to shareholders or depositors or obey the regulations that the banks are subject to – the only capital at risk is their own.
- They can afford to select solid projects and borrowers – often for relatively short-term loans, allowing for quick capital repayment.
- Low loan-to-value ratios (usually stricter than those offered by major banks) mean that their investment is guaranteed by a tangible asset, protecting the lender, even in the unlikely case of a default.
- Interest rates for private lending tend to be considerably higher than those charged by traditional banks, sometimes up to 16%, making for a substantial ROI.
When confidence in the traditional banking system causes investors to panic, private lending can become a very attractive alternative.