Assessing the Policy Impact of the SVB Collapse - Lord Abbett
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March 13, 2023
Markets & Economies
Assessing the Policy Impact of the
SVB Collapse
Developments in the U.S. banking sector—along with signals from the February jobs report
and other upcoming data releases—may argue for a more cautious approach on rate hikes
from the U.S. Federal Reserve
Giulio Martini, Partner, Timothy Paulson, Joseph Graham,
Director of Strategic Asset Investment Strategist Investment Strategist
Allocation
While the February U.S. employment report, and its implications government, we will also get a number of significant economic
for U.S. Federal Reserve (Fed) policy, was supposed to be the releases this week, including the latest CPI and PPI reports, as
major market event of last week, markets have been roiled by well as monthly retail sales activity.
the collapse of Silicon Valley Bank (SVB), which fell victim to a Said differently, the Fed must balance the needs of the hour
classic deposit bank run to become the largest U.S. bank failure with the needs of the year. Markets are understandably focused
since Washington Mutual in 2008. Countless headlines and on the potential turmoil in the banking industry. However, the
opinion pieces have popped up since SVB’s failure, with varying central bank must balance policy response with both short-term
views on just how wide-reaching the effects of the collapse may and long-term needs, and we caution investors against
be, and the likely policy implications. conflating the two.
While the situation is likely to remain dynamic for some time,
one clear impact is the dramatic repricing of interest rates and
expectations for the fed funds rate. In only four business days
SVB and the Banking Sector:
(March 7-10), yields on two-year U.S. Treasury notes have A Quick Recap
plunged, from 5.1% to 4.1%, while expectations for the fed SVB, a unit of publicly traded SVB Financial Group, was the
funds rate by the end of 2023 have fallen from 5.45% on March go-to bank for the venture capital (VC) economy, where it had
7 to 4.03% on March 13. This move reflects a view among 50% market share and was growing rapidly. Nearly all its
some investors that recent events are proof that the Fed has deposits were from these VCs and tech-related firms, which is
inflicted enough economic pain via its series of interest-rate an unusual level of depositor concentration. Because so many
hikes and will need to pivot aggressively to contain potential depositors were commercial enterprises, nearly 90% of these
systemic risks. However, the fact that the surprise closure of deposits were uninsured (above the $250,000 limit from the
SVB occurred during the trading day on March 10, hours after Federal Deposit Insurance Corp.). SVB’s deposits increased at
the release of monthly payrolls data for February, underscores an extraordinary rate over the last few years because of high
the fact that the Fed must still navigate a variety of potentially levels of start-up tech funding and money flooding into private
conflicting pressures. While there is much we still cannot know equity. The bank deployed 70% of that cash into fixed-rate,
yet about the extent to which depositor panic may impact other low yielding bonds (mostly Treasuries and mortgage-backed
banks, and the extent of the response from the Federal securities).
1
However, that dynamic reversed abruptly in the past year, as the In addition, average hourly earnings only rose 0.2%, a sign of
bank’s clientele burned through cash at a higher-than-expected diminishing inflationary pressure despite a red-hot labor market.
rate, quickly reversing the deposit growth. SVB opted to sell some However, because earnings growth in February 2022 was even
of their bonds to raise cash, then raise capital, and reinvest the lower, year-over-year average hourly earnings gains increased
cash at higher rates. However, SVB’s situation worsened because from 4.4% to 4.6%.
of the optics of selling the bonds at a loss before raising capital. On its own, the mixed jobs report would probably tilt the Fed
When the stock fell 30% in response, some VC firms began towards a 25 bp increase in the fed funds rate at its March 20-21
advising clients to pull deposits, which created a classic bank run. meeting. However, given the short-term uncertainty in the banking
An additional $42 billion in deposits was pulled out Friday and the sector, we would not be surprised if the Fed adopts a “wait-and-
FDIC stepped in to put the bank into receivership and did the see” approach at its March meeting that should not be viewed as
same for Signature Bank on March 12. a broader change to their longer-term focus. Data on U.S.
While the SVB failure is notable, it is not large enough on its own consumer prices for February and other releases scheduled for
to create these extraordinary market dynamics. Rather, markets the week of March 13 will still factor into the Fed’s future rate
are concerned about a contagion effect, where panicked investors plans, though to a lesser degree given the need to address the
pull money out of other banks, creating a larger systemic issue. continued fallout from the SVB failure.
In part because of this difficult-to-quantify risk, the Treasury, Fed,
and the FDIC announced on the evening of Sunday, March 12
that depositors in SVB would remain whole and have access to
Fed Policy & Investment Implications
their funds on Monday, March 13, funded by the FDIC. Some analysts have suggested the abrupt collapse of SVB is proof
that the Fed has already hiked too far and must cut rates soon to
minimize the damage. We disagree, as the inflationary pressures in
Key Data Reports and the Post-SVB the economy have not yet abated, nor are they likely to have done
Economic Picture so by the time this bank scare has played itself out. As we have
The SVB news comes against the backdrop of data showing a discussed in the past, there are many implications associated with
still-strong U.S. economy. The February jobs report showed an the abrupt shift away from the decade-long low-rate regime, and
increase in the jobless rate and moderating labor-cost growth, but surprise discoveries of companies and sectors that were overly
also displayed stronger-than-expected aggregate job growth. The dependent on low rates is part of that process.
segment of the jobs release that surveys U.S. households reported However, as painful as the events around SVB may prove to be,
that the unemployment rate rose from 3.4% to 3.6%, a rise that we do not view them as systemic, nor do we view them as
would normally only take place in a sharply slowing economy. fundamentally changing the Fed’s longer-term focus. While we
However, the 3.6% jobless rate is still extremely low, indicating that can safely rule out a 50 bps Fed hike off during the March meeting
the economy is operating above full employment, and some of this and will not be at all surprised to see policymakers pause and
increase is due to a welcome rise in labor force participation. assess conditions at that time, it is important to remember that
Meanwhile, the part of the report that surveys U.S. employers the central bank has many policy levers for ensuring the health of
showed that nonfarm payrolls increased at a greater than the financial system, even as it retains its longer-term focus on
expected 311,000 in February, a pace of employment gains well in longer-term issues.
excess of the 50,000-100,000 that is consistent with normalized
monthly labor force growth. That implies the economy continued
growing rapidly during the month and was even farther above full
employment than previously thought. That’s the exact opposite
message from the one delivered by the household survey.
2
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