It isn’t that treasury bonds are inherently “risky”. The risk is that when you hold longer duration bonds at low interest rates like SVB did, even modest rate increases will have a large effect on value.
Combine that with the bonehead investment in MBS which allegedly only yielded 1.5% at 10 year duration and you have massive losses.
[1] https://theintercept.com/2023/03/11/silicon-valley-bank-used...
I assume though, that like any black swan there were many things that went wrong together. Lately at work, I have been telling people that one in a million happens eight times per day at just 100 requests per second! Shit is going wrong in small ways all the time. So you design for that — but eventually in a big system enough of those minor failures will line up to cause something you notice. You probably remember that huge facebook outage in 2021? Lots of things went wrong and then they were locked out of their own conference rooms. The financial system is different parts at a different scale but the same theory of failure applies.
Not smoking guns, more like a bad bet here, and a stupid decision there, and one dumbass VC influencer gets jumpy and runs his dumbass mouth in slack and bobs your uncle bye bye SVB.
More fundamentally though, the stress test is testing capital, not liquidity. What actually did in SVB was a bank run during a liquidity crisis. Due to interest rate rises, their liquidity got so bad they had to sell long-term assets at a loss, and when they announced they were raising capital to cover that loss, they triggered a bank run: the ultimate and most cruel test of liquidity there is. The stress test they lobbied their way out of would have indicated poor-but-manageable health, it’s not useless, and they should have been required to do it. But the stress test does not involve simulating a bank run, it would not have predicted this collapse.
I don’t think the stress test is meant to model a collapse. As has been mentioned elsewhere, no bank survives outflows of 40-50% of deposits. I understand Baker’s comment to imply that stress tests are not simply “are you over this minimum bar” but also designed to probe for any weakness in lots of different scenarios so the weaknesses are discovered and can be addressed. I imagine it like the regulator is the parent telling the kid to eat their veggies — they might not force them into your mouth but they’re acting as a third party check on your worst impulses. If that’s the case, the stress test should have prompted a discussion about this risk about nine months ago. That this fell apart so fast implies that risk management failed, that those discussions never happened, and so there will presumably be motion to fix that weakness for next time. So you’re right that the run would still have killed them, but better long term risk management would have prevented the blood in the water that spooked the VCs that caused the run.
PS: I feel like that one meme from it’s always sunny — everything is connected to everything. Have to look past the first-order effects.
For what it’s worth, the most plausible scenario I can see where SVB doesn’t collapse is something like “Their lobbying isn’t successful, they are required to undergo rigorous Dodd-Frank testing, because of this they are forced to get a risk officer, the risk officer armed with the kinda-worrying stress test results convinces SVB management to at least ratify a liquidity strategy even if they don’t really want to act on it, when they go to sell bonds and raise capital they present it as part of this liquidity strategy, the VCs see the strategy and aren’t as spooked, so the wave of withdrawals fizzles out instead of becoming a bank run - but inside SVB it gets way closer to a full-blown run than anyone outside realizes, and this scares management into executing on the liquidity strategy”. That’s an absurdly long chain of events and it’s very easy to step off that path at any point (or just get unlucky) so I still think it’s unlikely, but if I had to give an account of how SVB hypothetically survived, this is what I’d give.
1. Financial analysts were not devoting much time to analyzing the risks from rapid rate increases, as rapid rate increases were deemed very unlikely (in part because the Federal Reserve itself had offered guidance that it was unlikely!). Furthermore, the time that was spent on analysis of this low-probability event was spread very thin (interest rate increases affect pretty much everything), and the perception of “zero risk” in T bonds would have bumped them to the end of the list for analysis, meaning even less analysis time for this outcome. Just now on Twitter I’ve seen two financial analyses praised for their prescience in this event - one from the FDIC, one from Byrne Hobart. Both of them only picked this up after the rate increases came into effect.
2. Even if there was full awareness of this risk, and plenty of forewarning that the rapid rate increase was definitely coming, the regulations as written would still permit these investments. The bank itself would probably have made smarter decisions and wouldn’t have collapsed, but that would be orthogonal to the regulations under discussion in the OP. (In my initial comment I even sketched out the argument that the regulations would have been mildly opposed to the smarter decisions.)
If you want my motivation for discussing it all day: I’m curious, it’s an interesting and fast-moving puzzle that a lot of smart people are discussing. If you want my qualifications for offering so many specific assertions: I’ve read the primary sources and it just doesn’t seem like it would fix or prevent this the way other people assume it would. If in my enthusiasm I’ve oversold myself as an expert, I apologize unreservedly.