Many of us were drawn to the sudden collapse of Silicon Valley Bank (SVB) and the events that unfolded over the weekend. It took less than 48 hours from the time that SVB announced they would need to raise additional capital on 9 March to the taking over by Federal Deposit Insurance Corporation (FDIC) on 10 March. We are probably worried about the impacts to our own personal investment portfolios.
Based on the announcement by the US Federal Reserve, the Treasury Department, and the FDIC, there will be no impact unless you are an investor in SVB stocks or bonds. For those of us that invest mostly through mutual funds or unit trusts, there could be some small holdings of SVB securities, but the impact will be very small. And the announcement also stopped potential larger financial turmoil in the banking sector.
There are some valuable lessons we can learn from this unfortunate event. The collapse of SVB is a classic failure of risk management.
1) Lack of diversification: SVB’s clients (source of their deposits) are highly concentrated in the Venture Capital (VC) industry, VC funds, or startup-backed VC funds. SVB is far more exposed to downside risk during periods when the business cycle tightens and VC funding dries up.
2) Duration mismatch: While SVB’s client deposits are short-term; SVB invested a large portion of these deposits into longer-duration bonds. This leaves SVB exposed to a significant amount of interest rate risk.
3) Not enough safety margin (or capital) for unfavourable market conditions. When interest rates went up last year, long-duration bonds suffered significant losses (15+%) which leads to the deterioration of SVB’s capital base.
So, for all of us individual investors, we do not know what the market will do, just like SVB could not anticipate the VC business cycle and interest rate movements. But we can surely learn from this event and make sure we manage our investment portfolios according to the well-tested principles:
1) Invest in a well-diversified portfolio;
2) Do not invest short-term money in long-term instruments;
3) Pay attention to safety margin and set up proper emergency reserves.
These are lessons we can learn and constantly apply to how we invest.
This is an original article written by Dr Peng Chen, Senior Advisor and Director of Providend Holding Pte Ltd.
For more related resources, check out:
1. Principles for Successful Investing
2. Finding Conviction as an Index Investor
3. Don’t Use Short-Term Information to Make Long-Term Decisions
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