More than 85% of Silicon Valley bank deposits were uninsured. Here’s what this means for customers

Silicon Valley bank shut down by regulators

People gather outside Silicon Valley Bank (SVB) headquarters on March 10, 2023 in Santa Clara, California after the bank closed. Credit – Justin Sullivan – Getty Images)

Silicon Valley Bank was aptly named: it held the funds of hundreds of American technology companies and was a crucial player in the valley’s economy. But on Friday it became the second-largest bank failure in US history after a rapid increase in its deposits. About $175 billion in customer accounts were taken over by the Federal Deposit Insurance Corporation (FDIC), which is now tasked with returning money to bank customers.

But more than 85% of the bank’s deposits were uninsured, according to estimates in a recent regulatory filing. That’s because the FDIC’s deposit insurance is designed for ordinary bank customers and maxes out at $250,000. Many Silicon Valley startups had millions or even hundreds of millions of dollars deposited in the bank—money they used to run the companies. and to pay the employees. Right now, no one is sure how much of that money is left.

The tech sector was already going through a harsh macroeconomic climate, with layoffs galore and stock prices plummeting. The collapse of Silicon Valley Bank is likely to exacerbate these problems and could threaten the economy as a whole. “It’s like a Lehman Brothers moment for Silicon Valley,” says one Silicon Valley startup founder whose company has millions of dollars tied to SVB. “It feels like something that should never have happened because it’s such a trusted entity.” The person spoke on condition of anonymity because he was worried about losing clients because of his ties to SVB.

Bad bets

SVB was founded in 1983 and is headquartered in Santa Clara, which is right in the middle of Silicon Valley. The bank was the 16th largest in the country and has long prided itself on its close relationship with technology entrepreneurs, calling itself the “financial partner of the innovation economy”. The bank claimed at the end of 2022, “nearly half” of all US venture-backed startups used its services.

But on Wednesday, SVB said it was facing a liquidity squeeze and was holding an emergency fundraiser and selling off US Treasuries at a loss to shore up its position. The announcement caused widespread panic in the Valley, with many companies scrambling to get their money out before it was too late.

As fears spread, investors pulled out of bank stocks on a larger scale, with the four biggest US banks losing about $52 billion in market value on Thursday.

Many technology leaders called on the companies that banked with SVB not to panic or withdraw their money. But the risk for these startups was too high, and self-fulfilling banking ensued. SVB’s share price fell 60% on Thursday and trading was halted on Friday morning. By noon, the FDIC had taken control of the bank. The only bank failure larger than this in American history was Washington Mutual, which had approximately $300 billion in customer deposits before the 2008 financial crisis.

Most banks by nature use their customer deposits to make loans and then make money on the spread, allowing them to earn income and their customers to earn interest. But financial institutions now face a changing economic climate in which the era of free money at ultra-low interest rates is over as the Federal Reserve tries to tame inflation by making it more expensive to borrow.

Some seemingly smart investments that banks made two years ago have since failed, says John Rizzo, senior vice president, public affairs at the D.C.-based Clyde Group. That was a big part of SVB’s problem: $91 billion worth of Treasuries (usually a safe investment) that the bank bought with customer deposits had lost about $15 billion in value due to rising interest rates.

(Rizzo also pointed to the struggles of crypto-focused Silvergate Bank, which announced it would cease operations this week.) “When interest rates go up and money is tighter, you tend to find out who made bad bets,” he says. “You can see the bubble bursting in some of these risk assets, and over the last few weeks we’ve been finding which financial institutions have been overexposed to them.”

Chasing insurance

SBV’s failure had an immediate ripple effect in Silicon Valley. The aforementioned startup founder said they started banking with SVB right at the founding of their company a few years ago “because it seemed like the de facto standard.”

“It’s been around for 40 years,” they said. “It was a really trusted entity that everyone seemed to store money in.”

The founder’s company held all its assets, which were worth millions of dollars, in SVB. When the panic started on Wednesday, the founder began to consider withdrawing his money, but said the process of setting up a brand new business bank account would take several days.

The FDIC said customers will have full access to their insured deposits up to $250,000 this coming Monday. But $250,000 is “small change” compared to what most tech companies have stashed away in SBV, the founder says. They estimate that “hundreds, if not thousands, of companies” have millions of dollars tied up in the bank.

“FDIC insurance is designed to give the everyday depositor confidence that at some point they can get their money back,” Rizzo says. “But as we’re finding, it creates a significant problem if you’re over the threshold.”

The founder says their company is in a better position than many others: because the company is generating revenue and their team is only about 30 people, they will be able to make payroll for the next few months. After that, they’re not so sure. “We don’t know if we will have to cut or lay off employees. We don’t know if we will ever get the money over and above the sum insured,” they said.

And many Silicon Valley startups generate no revenue at all, instead relying on fundraising rounds from venture capital firms. “Let’s say you’re a high-flying startup that banks with SVB, raised $100 million, burns a million dollars a month, and has no revenue,” says the founder. “You’re actually fed.”

The founder says a common sentiment they’ve heard from other tech entrepreneurs is that “people are hoping someone, whether it’s the government or a bigger bank, will bail out the remaining depositors.” Some financial veterans, including former Treasury Secretary Larry Summers, have begun calling on the government to ensure that depositors are bailed out even if their accounts exceed $250,000.

The failure of SVB sent tremors through the entire banking system. Similar-sized institutions, including First Republic Bank, Signature Bank and PacWest Bancorp, suffered double-digit stock declines.

The founder says SVB’s failure could fundamentally change the way money flows in Silicon Valley, with people perhaps hesitant to trust smaller institutions. “People will be a lot more cautious, and that’s bad,” they say. “More money is likely to accumulate in the hands of the biggest players.”

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