Here's the crux of the problem.
Banks have deposits and they need to do something with them. They can lend them out and often do, but you can't lend it all out.
What was seen as something safe to do with the rest was to invest it in the safest investments in the world: US Treasuries.
The problem is that those investments weren't so safe. As the Federal Reserve rapidly hiked rates the 1.6% yielding 10-year notes are suddenly paying 4%. That means the prices of those bond have fallen from, say, 100 to 96. That doesn't look like a big loss but there are huge amounts invested.
There are rules that banks don't have to 'mark-to-market' those losses because there are no losses if they hold them to maturity. The problem is if everyone wants their money back.
That's what happened to Silicon Valley Bank. When worries about it began to spread, companies began to pull cash and they needed to sell those Treasuries. When they sold them at 96 instead of 100, there was a shortfall. They tried to plug that with an equity raise but it was poorly handled and only added to the run on the bank.
Now we have contagion. Shares of other banks are falling by 40% and you can bet that account holders are liquidating like they did at Silicon Valley Bank. Will they have to sell those bonds and take losses?
Chillingly, here's a story from November in the WSJ about exposure for the biggest US banks.
"For the 24 big U.S. lenders in the KBW Bank Index, the combined balance-sheet value of held-to-maturity bonds was $2.21 trillion as of Sept. 30, according to a Wall Street Journal review of their filings. The market value was $1.91 trillion, or 14% less. The gap was negligible when the year started."
That's a $300 billion hole.
Bank of America's exposure is illustrative.
"Among the KBW index members, the lender with the largest gap by dollar amount was Bank of America Corp. Its latest balance sheet showed $644 billion of held-to-maturity bonds. Their market value was $528 billion, according to an accompanying disclosure. The $116 billion difference was equivalent to 43% of Bank of America’s $270 billion of total equity, or assets minus liabilities, as of Sept. 30. At the start of the year, before rates surged, the market value and balance-sheet value were within 1% of each other."
Here's a graphic from the WSJ:
Is everyone going to pull their deposits from Bank of America? No but the worry is that the latest panic will spread to a number of smaller banks as deposits are yanked and moved to too-big-to-fail banks.
Ultimately, bank have a way to fight back: Higher deposit rates but that doesn't work until confidence is restored, which could take action from the Fed or Treasury. Maybe this will fizzle out on its own but this is the situation right now and worries about 'held to maturity' bonds will linger.
BREAKING: FOOTAGE OF PETER THIEL STARTING THE BANK RUN AT SILICON VALLEY BANK RELEASED pic.twitter.com/QtBsGRiqkY
— Cas Piancey (@CasPiancey) March 10, 2023" title="">
BREAKING: FOOTAGE OF PETER THIEL STARTING THE BANK RUN AT SILICON VALLEY BANK RELEASED pic.twitter.com/QtBsGRiqkY— Cas Piancey (@CasPiancey) March 10, 2023