Banks in the news
The banking sector has been in the news for the last few weeks….
22nd March 2023
Gavin Jones See profile
Earlier in March, there was concern when Silicon Valley Bank (SVB), a US bank that specialises in technology companies, announced to its investors that it was raising capital. This caused investors to become concerned that the bank had liquidity problems which led to many of the bank’s customers taking their money out – a bank run. You may recall the demise of Northern Rock in 2007 and images of queues of customers waiting to make a withdrawal. As withdrawals these days tend to be made online, when customers tried to remove $42bn of their funds from SVB on one day, concerns became a little more serious. On Friday 11 March, California regulators shut the bank down.
The bank had previously been able to offer better interest rates on their accounts by investing in long-dated US Government bonds. However, as we have seen in the UK as well, following the recent hikes in interest rates, bonds have performed particularly poorly. As a result of the panic that led to customers taking their deposits out of the bank, Silicon Valley Bank had to sell these poorly performing investments at a big loss to cover the withdrawals.
The US have a deposit protection scheme like the UK where the Federal Reserve will pay back up to $250,000 if a bank defaults. The average deposit in SVB was, reportedly, around $5 million, well above the $250,000 cap on insured deposits. It was thought around 90% of the deposits were uninsured. As most of the Silicon Valley Banks customers are start up tech companies, the consequences of these companies not being able to access their cash deposits because of this bank collapse, have caused the Federal Reserve to dig deeper into their pockets and announce that they will cover deposits in full.
Lessons learned from the great financial crisis in 2007/09 meant that actions have been swift. Alongside the Federal Reserve of America pledging to pay back all the customers deposits on Monday 13 March, it was announced that HSBC was buying out the UK arm of SVB for just £1.
The biggest question to be answered was whether this collapse was isolated or whether there is a wider risk to the banking system. Investors have been scrutinising banks and those that are seen as weaker have also run into trouble leading to another US bank: Signature failing shortly after SVB and Credit Suisse, a globally renowned name, albeit loss making getting into trouble. It was announced on Monday that both banks have been bought with UBS stepping in to buy Credit Suisse.
Both banks were already financially weakened, Credit Suisse had been loss making for several years and had started selling parts of its business including the US investment arm and is facing court action after one of its bankers was convicted for fraud in 2018.
With the rapid increase in interest rates we have seen, there has been much greater pressure on individuals and businesses. Historically when we have seen interest rate increases like this it has led to recession or a banking crisis. Indeed, many forecasters have been anticipating a recession in many global economies this year.
With the great financial crisis of 2007/09 still fresh in people’s memory, it doesn’t seem as if history will be repeating itself. Lessons were learnt in that crisis and Banks are now judged to be financially very strong and their financial strength is tested regularly.
At the time of the SVB collapse, the Federal Reserve also set up a borrowing facility for other banks to provide liquidity against US Treasuries (and some other assets) based on their value at maturity. Although other small banks are under pressure, this has likely stopped any systemic risk to the banking sector.
Diversification is critical to managing risk. Your investment portfolio is broadly diversified across a wide range of individual companies and you do not have a large exposure to any of the securities you hold. SVB has a global market capitalisation of around 0.03%, which is an insignificant amount in a diversified, systematic portfolio. There is exposure to Financial stocks – a medium risk investor will hold about 8% of their portfolio in Financials – which includes banks as well as insurance companies etc.
Those that wish to see less volatility have been sheltered by holding a larger proportion of their assets in high quality bonds. Government and other high quality bonds that you have in your portfolio have seen increases in price recently as the expectations of further interest rate rises have fallen in light of the current situation.
We do not advocate any knee jerk reactions. Market falls over the last week or so is pricing in the increased risk, for equities and global economies. Further bad news could lead to further falls, but overall most banks are well capitalised after the great financial crisis and have been regularly stress tested for situations like this. If sentiment changes again, recovery in equities could be swift.
Investments are meant to be long term and we expect to see volatility like this from time to time. In the UK we believe investor deposits should not be at risk regardless of their size, but it’s always sensible to take a safety-first approach to substantial deposits.
You can make sure you are protecting your cash from bank failures by taking advantage of the Financial Services Compensation Scheme (FSCS) and that diversification is the key to managing risk.
What is the FSCS?
The Financial Services Compensation Scheme is a compensation scheme set up by the UK Government that will pay up to £85,000 per banking group per person if a bank fails.
This means that if you have any banks holding more than £85,000 of your cash, you are at risk of losing it should the bank default.
What should I do if I have accounts over the FSCS limit?
You have a few options:
- Spread your cash across banking groups holding a maximum of £85,000 per person per banking group (you could have a joint bank account with £170,000 being fully protected). You can check any other names that your bank trades under (and therefore what group it is in) by searching on the FCA register – Home (fca.org.uk)
- Consider depositing cash in National Savings and Investments (NS&I) accounts. NS&I is backed by HM Treasury so your money is fully protected and limited only by the maximum deposit in each product. For instance, you can invest a maximum of £50,000 in premium bonds but up to £2 million in the direct saver account. Our saving products | National Savings & Investments | NS&I (nsandi.com)
- For those with higher amounts on deposit, speak to your Financial Planner about cash management services which can maximise the interest you earn on your deposits while spreading the risk across a number of banks to ensure full protection under the FSCS.
We hope this article provides reassurance, and please speak to your financial planner if you want to discuss any concerns.