147 Comments
Mar 11, 2023·edited Mar 11, 2023

Why do startups use SVB? This is according to a friend whose startup has their money at SVB and are currently extremely worried:

Their VCs tell them to. Don't forget that most founders have no idea what they are doing when it comes to this. Have you ever had someone wire you $20 million? The whole point of VCs is to help with this kind of thing. Every single Marc Andreessen startup uses it, for instance.

Better rates and packages than other banks would offer a revenue less business account. I've heard stories about how founders can't even get a credit card from other banks.

They offer incentives like 1 year of free AWS credit. Startup packages on SFDC. Stuff like that.

My understanding is that most startups keep some operational cash at a bigger bank like Chase, to handle international payments and payroll. But keep the bulk of their funding at SVB. So they're not necessarily worried about liquidity on Monday but more like what happens in two or three weeks.

In retrospect it is obviously dumb to keep way too much money above the FDIC limit at a single bank. (Though, having been a startup founder, I'm not sure I'd be super happy to have to also take on the burden of managing a T-bill portfolio when I'm also trying to hire, market, find product fit, blah, blah, blah.) But I blame the VCs who are supposed to be smart for giving bad advice to founders who don't know any better.

Expand full comment
Mar 11, 2023·edited Mar 11, 2023

Startup founder here (luckily we’re with Mercury + other banks. Unscathed)

Above commenter is correct on reasons startups would bank w SVB but I just wanted to expand on some of the perks:

- Hundreds of thousands of dollars in Cloud Credits across AWS, Google, Azure

- Tens of thousands of dollars in credits across critical SaaS providers (GitHub, Salesforce, Hubspot, Slack, etc.)

- Networking access to investors through SVB programs and events

- Networking access to other founders which is also hugely valuable

- Access to venture debt if needed (most investors advise against this but for some business models it could be OK)

- And much more

So when you are starting out as a startup founder, you are pitched a 6 to 7-figure value to store your money at a bank that has never had a crisis and that nearly every other founder and investor you know has their money.

Mercury offers similar perks but we just went w them because their software has a better UX and YC companies started using them. We were very lucky.

Expand full comment

If you're banking on the basis of freebies from the bank, and the advice of VCs you're an idiot, and anyone who funds your startup is even dumber. Good luck changing the world. If you're giving money to an institution called 'Mercury' or 'Evolve Bank and Trust' you're a mark.

Expand full comment

Hey David, I was just trying to provide readers some additional perspective on the decision-making of a young founder. I wasn't saying I think we made the correct decision (in fact, now I know we didn't and will diversify going forward).

But thank you for calling me an "idiot", "dumb", and a "mark". I don't have any formal financial training or banking knowledge. I'm just a young founder trying to solve an important problem (making scientific knowledge more accessible at https://consensus.app/) and I followed some misguided advice from the smartest people I know in the industry. But thanks for the motivation :)

Expand full comment

Christian, sorry! my response was over-the-top and undeserved. We should all be thankful we have a Federal Reserve system designed to keep this kind of contagion from spreading. It's what lets young people have access to capital to solve problems. We all hope the problem you're solving is important, and I'm sure if it is the American banking system will have your back.

Expand full comment

Thanks for the reply David!

Expand full comment

It's also pretty bizarre to call anyone an "idiot" for where they decide to keep their checking account, business or otherwise. We generally don't think that depositors should be doing extensive due diligence on the creditworthiness of the place they plant their deposits. No one thinks of a checking/savings account as an investment; it's a cash warehouse. It's a social good for government to relieve depositors of the burden of needing to do diligence to ensure the safety of their deposits. Yeah, that creates a mild amount of moral hazard, but, like, ordinary retail/business bankers aren't among Wall Street's masters of the universe in the first place.

Expand full comment

If you trust banks based on what they're named it's going to be pretty easy to scam you by buying the local community bank.

Expand full comment

Is Mercury also weird like SVB-weird as defined by Noah?

Expand full comment

Unlike SVB, Mercury isn't an actual bank. It handles the front end of payments, and is the only point of contact for customers, but the actual banks that Mercury stores deposits in are

Evolve Bank & Trust: https://www.ibanknet.com/scripts/callreports/getbank.aspx?ibnid=usa_592448

and Choice Financial Group: https://www.ibanknet.com/scripts/callreports/getbank.aspx?ibnid=usa_826956

Neither is a startup-first bank, they're more traditional institutions. Their size of their balance sheets are just a tiny fraction of what SVB's was though. I imagine they're keeping a close eye on withdrawals right now.

Expand full comment

That makes it even more weird! 🤯 How would I even assess the risk of my cash deposit in Mercury?

Expand full comment

Mercury IS NOT A BANK, "Mercury is a financial technology company, not a bank. Banking services provided by Choice Financial Group and Evolve Bank & Trust®; Members FDIC.". It's possible because of their pooling relationship to Choice and Evolve that NONE of your value is insured.

Expand full comment

Sounds like the VC community shot itself in the foot here

Expand full comment

These services and incentives seem incredibly worthwhile to me, and an entirely rational reason to select a specialized regional bank over a massive GSIB. It went wrong because tech as a whole is crashing. Does that mean it was actually a bad decision or that they were misled by VCs? I’m much less sure.

Expand full comment
Mar 11, 2023·edited Mar 11, 2023

Yes, this is basically what I was going to comment on. SVB has a web of relationships with investors and law firms in the Valley, and so everyone would direct you there. And, like, there was not zero value to this. Like any business, a lot of how it operates is via person-to-person relationships and referrals. Just after I got my MBA, a few friends and I spent most of a year exploring the idea of building a business that would've been quite similar to Mosaic (crowdfunding renewable energy projects -- I'm actually not sure whether Mosaic existed at all at the time; if so it was very small / submarine mode). We never got the traction to start taking in the larger investments we would've needed, so after a year we all gave up and moved on to other things. But we absolutely would've used SVB if we'd moved forwards with the project. (Though as the CFO type in the group, I would've tried very hard to make sure that the actual corporate checking account stayed under the FDIC limit, and put additional funds in safe-and-liquid but still higher-interest-than-a-checking-account forms like some kind of T-bill fund.)

Expand full comment

I've seen comments that founders either don't have the time or savvy to use cash sweeps or other mechanisms to keep cash under the $250K limit and thus insured. Is that the case? If so, you'd think the more experienced VCs would have steered them toward this or provided such a service.

Expand full comment
Mar 11, 2023·edited Mar 11, 2023

I'd be surprised if founders that actually come out of the MBA pipeline would not know how to use cash sweeps and the like... I mean, I understood that kind of mechanism just from managing my own personal assets, from having earned some money as a junior engineer in my 20s, and then did my MBA around the time I was 30-31...

I could believe that a fair number of founders with more diverse backgrounds, especially immigrants, had less knowledge about finance, but I agree, you'd think that angel investor / advisor types would give smarter advice about this.

(A lot of immigrant engineers from places with somewhat shakier financial systems than the US basically don't understand financial instruments, because upper middle class families in their culture didn't have a lot of interest in holding stocks and bonds -- rationally so, because their local markets have a lot more friction and aren't highly rewarding unless you can operate at large scale. You'll often see them pour their personal money into real estate -- which most of the time is actually a pretty good bet, around here, though a lot more volatile -- or sometimes becoming silent partners in small businesses run by family and friends.)

Expand full comment

I know several founders who started companies straight out of a PhD or postdoc in a technical subject and have absolutely no formal training in business.

Expand full comment

Sure, so do I. Does that conflict with what I said?

Expand full comment

The true sign of intelligence is being able to explain complex topics in the simplest way possible. Great post 🙌

Expand full comment

There is another reason some startups — particularly those in the crypto space — chose SVB: it was literally the only bank that would allow them to open an account. I know this first hand, though it has been a few years and perhaps the landscape had since changed.

Expand full comment

I’ve been searching for a great write up about the situation with SVB all day, and this was by far the best, most comprehensive, and succinct explanation I’ve read so far. Thanks for putting the effort into it

Expand full comment

So knowing someone who was at SVB, Lulu roughly got it correct. The dumb strategy of selling a lot of assets all at once while trying to raise capital combined with terrible comms strategy (if you were a bank trying to start a run on yourself, I don’t think you could have done better) spooked everyone in to a bank run. Blame the honchos at SVB.

SVB could have just slowly quietly sold assets over time to raise their capital buffer.

Expand full comment

SVB evidently had 75% of deposits withdrawn in roughly 24 hours. Bank runs definitely can kill a bank.

Expand full comment

This might be a dumb question but where do you keep your money if you're Fully Mature Corp with $50 million in cash? Spread across multiple banks? Buy insurance?

Expand full comment
author

Treasuries and short-term corporate debt like commercial paper, mostly. You can also keep cash at normal banks, which are less likely to have runs because so many of their deposits are small accounts that are FDIC insured. SVB was weird because its depositors were mostly startups with very large cash accounts, so it was very vulnerable to a run. Most companies keep their uninsured deposits at banks who mostly have insured deposits.

Expand full comment
Mar 11, 2023Liked by Noah Smith

Are there any other weird banks? Mercury was mentioned because YC startups uses that. Any others perhaps?

Expand full comment
author

Not nearly as weird, but there are a few others who might be vulnerable. I'll discuss those in tomorrow's post!

Expand full comment

Lots of small regional banks are tied to the economy of the region they’re in.

A friend of mine said he was sick of hearing about SVB. He noted that nobody cared when hundreds of small Midwestern S&Ls and banks upped and died in the ‘80’s and ‘90’s when jobs in the Rust Belt went kaput.

Expand full comment

I lived in Dallas in the early 80s. The entire Texas banking industry then went bust buying brokered deposits from Wall Street firms they invested in worthless land projects. This sounds like the Silicon Valley equivalent. Cheap money, greed and assuming your borrowers will pay you back is the quick road to insolvency.

Expand full comment

Also money market funds.

Most big banks don’t want your money (well, now they do, if they can pay 300bp less than t-bills) as they have to hold short-term securities against much of it. Smaller banks are exempt, but most aren’t as irresponsible and reckless as SVB in investing deposit proceeds

Expand full comment
Mar 11, 2023Liked by Noah Smith

US T-bills

Expand full comment

So Apple has like 280 billion dollars (their cash balance) in ... T-bills? Parked at the Fed?

Expand full comment
Mar 11, 2023·edited Mar 11, 2023Liked by Noah Smith

this is old, but I don't think the tactics have changed:

https://www.theguardian.com/technology/2014/sep/07/apple-iphone-6-cash-pile-tax-avoidance-us

At that time (2014) "Only $8.3bn of Apple's stash is actually in hard cash. The rest is invested in government and corporate securities and other investments. Its biggest holdings are $35.5bn in US treasury bonds and $73bn in corporate securities. Apple also holds sizable investments in foreign countries' debt, commercial paper-based and mortgage-backed securities, all controlled by its own fund management group, Braeburn."

(So I guess it's more investments than just T-Bills for them, though I think more normal companies are going with treasuries and money market accounts for the most part. Though there's always Saylor putting Microstrategy's spare cash into Bitcoin! The things you can do...)

Expand full comment

Yeah if you have $80 billion dollars you’re not just going to hand it to some random bank and say “have fun! I’ll come back for it someday!” You might let somebody manage it for you but you’re going to want to know exactly where they’re putting it and what are the maturities on the bonds.

Expand full comment

Companies will keep some in cash for working capital and the rest is stored in investments such as trading, available for sale, or held to maturity securities. Either fixed income or equity. Publicly traded companies report this on their balance sheet

Expand full comment

Followup fun fact: My favorite NBA player (Giannis Antetokounmpo) had 50 bank accounts with $250k each, but the team owner told him to buy Treasury bills instead:

https://finance.yahoo.com/news/giannis-antetokounmpo-put-money-50-143319084.html

Expand full comment

+ 1 on this comment. Would like to know

Expand full comment

I work at a BIG corporation and it’s a whole part of our Finance department. You put that cash to work, baby! Lol, you can only get very low returns for how liquid you need it to be but yeah it’s usually a team managing it - even for small numbers of points, when you have A LOT of cash, it adds up I think. Although we are a weird cash heavy business so maybe not representative.

Expand full comment
Comment removed
Expand full comment

Yeah, the freezing of the repo market was one of the reasons there was so much uncertainty and worry about contagion in 2008. Companies couldn’t roll over their paper or get short-term funding.

This difference is why I don’t see much worry about spread to the wider economy from SVB failing.

Expand full comment

Re Why SVB vs JP Morgan.

As a foreign founder I was told by multiple people that SVB is the only bank that is willing to setup an account for an “unproven” entity while big banks are just shun these kind of customers. Don’t know how true is this.

Expand full comment

Probably. The big money center banks have so much bureaucracy/red tape/regulations/oversight/overhead (pretty much all imposed by regulators) that they're just not that willing to offer banking to small risky businesses.

Expand full comment

Tell us more. What is a 'foreign founder'? How many laws did you break to become an 'unproven entity' and why do you think a US bank might ask questions? We can all share here.

Expand full comment

It was a few years back and we’re incorporating a new startup. Not through an accelerator, no venture investors who could vouch for me, just some weird founder from a far away country (Ukraine)

Expand full comment
Mar 11, 2023Liked by Noah Smith

A good piece. So many factors at play. I think no one thing is dispositive for the death of a bank. You’re right about employees of boutique firms. I once volunteered to take a salary cut when money was scarce for my small-business employer. It turned out the accountant had embezzled a large sum. No matter: it was still the right thing to do. No regrets. Bitterness is like drinking poison and expecting someone else to die. The Big Banks on Wall Street, however, were felonious frauds. Too big too fail, in my opinion, is a good reason to break them up, sell off the good assets to responsible businesses, and let the investors take a haircut.

Expand full comment
Mar 11, 2023·edited Mar 12, 2023

There was a symbiosis between big banks on Wall Street peddling liar loans, but the liars were average Americans lying about their income for their dream home, abetted by a financial system that profited from skimming a percent off every mortgage funded and sold to German retirees. Angelo Mozilla and Countrywide Mortgage weren't Wall Street firms, but the Wall Street firms were happy to do business with them. If you think the American financial system shouldn't be too big to fail, you've never gone to an ATM and expected to get your money out. I'm sure yours is all in your pillow and think the American economy will chug along just fine when everyone follows your example.

Expand full comment

Since when should being over-leveraged in multiples to deposits/assets be rewarded with bailouts? These same Wall Street bankers had the gall to award themselves multi-million-dollar bonuses Post-bailout. Fortunately, I learned just enough in the 80s when working in the San Francisco Financial District: Follow the money. The Feds quickly signaled who was going to be backstopped by taxpayers. So, buying AIG junk bonds for $0.50 on the dollar and getting paid 8.75% until they called them in at par; or buying stock(s) created in the immediate panic of the Financial Crisis, such as Bank of America Perpetual Preferred 7.25% non-callable at $1,000 par, was a no-brainer. I imagine the BoA CFO grinds his teeth every quarter when he has to hand over that fat dividend. The wages of sin. Stuff money in a pillow? Why would you want to do that when you can collect 7.25% paid quarterly on a preferred stock that can’t be called-in? Then use that money to purchase alt-investments: Art, land, rare books, etc.

Until financially fraudulent executives are punished for white-collar crime, I know which side of the equation I wish to be on.

Expand full comment
Comment removed
Expand full comment

There was widespread fraud. Bill Black and Dick Pratt were as I recall at the forefront of encouraging American banks to grow or die after the melt-down of the 70's-80s disintermediation and negative spreads, wink at the lunacy so long as their balance sheet was ballooning and they were hypothetically earning a 1% spread instead of going bust. I'm pretty sure I was at banking conferences 50 years ago where this was the common wisdom from the mouths of Black and Pratt. If you're dying from a negative spread, grow yourself to solvency. Except oops, growing from $10 billion in assets to $100 billion profitably isn't actually that easy, except for the Bill Blacks of the world who rode off into the sunset after peddling BS on the conference circuit.

Expand full comment
Mar 11, 2023Liked by Noah Smith

Outstanding job explaining this mess. One reason this bank was weird was its lack of diversification. All the eggs were in the startup basket.

Expand full comment
Mar 11, 2023·edited Mar 11, 2023Liked by Noah Smith

I have taken the funds that were in the budget

and which you were probably saving for student loan relief

Forgive me they were necessary to bail out tech bros

so sweet and so cold

(not mine)

Expand full comment

FDIC doesn't take from the government budget; it's self financed by the banks.

Expand full comment
Mar 11, 2023·edited Mar 11, 2023

True, however the law creating the FDIC has a weird clause saying it is backed by the full faith and credit of the US government...but without any further clarification. In practice no one knows what this actually means if the FDIC fund runs out but everyone assumes it means Congress would throw more money at the FDIC long before any court tried to figure out what it really means.

Expand full comment

You should all hope the US banking system is backed by the government.

Expand full comment

They did in 2008 I think. It's just not something that happens every time.

Expand full comment

Nobody asks "where's my flying car" during a bank run.

Expand full comment
Mar 11, 2023Liked by Noah Smith

Yeah but if I had a flying car I could beat everyone else on the way to withdraw.

Expand full comment

SVB went after deposit growth in order to boost their stock price. Smarter banks turn down deposits or push clients toward money mkt funds or t-bills.

Big banks are subject to liquidity rules and must hold short-term t-bills against a good portion of deposits. SVB was exempt. They still could have bought short-term securities out of prudence, but in chasing depos to boost their stock price they also didn’t want to hurt their ROA and net interest margin numbers. So they bought 10-15 year maturities….against short term deposits…..at record low interest rates. Reckless incompetence.

The MTM losses on SVB’s HTM bond portfolio, which they boosted from $10b to $90b over two years, exceeded their tangible equity capital. That is why there was a run- they were insolvent - that and balances in deposits being drawn down as tech firms burned money or sought higher yields in t-bills.

How could the Fed allow this? Technically it wasn’t illegal. Also, perhaps because the CEO was a friend and donor to Mark Warner of the Senate Banking Commitee? Echoes of SBF buying protection. Strange that Liz Warren hasn’t yet condemned SVB management, eh?

Expand full comment

If you want to blame someone for this blame the Republican congressman who exempted smaller banks from these liquidity rules under Trump:

https://twitter.com/MattZeitlin/status/1634322807109701634?s=20

Expand full comment
Mar 11, 2023·edited Mar 11, 2023

I believe you may be mistaken. These have nothing to do with the liquidity rules against deposits, which were finalized by the Fed in 2014 under the Obama administration.

I blame SVB’s management for reckless incompetence and I blame the Fed for letting them take on so much mismatched maturity risk. While SVb was exempt from the liquidity rules they should not be exempt from macro prudential common sense.

Re: donations. I am merely pointing out a possible reason why Liz Warren hasn’t yet demanded jail time for the CEO (she may still- early days )

Expand full comment

Actually, my mistake, the wholesale finding exemption for SVB was based upon the Net stable funding rule proposed by the FDIC in 2016 and adopted in 2020, not tbe 2014 LCR rule.

https://www.fdic.gov/news/board-matters/2020/2020-10-20-notice-dis-b-fr.pdf

Doesn’t have anything to do with a bill to reduce overall capital requirements, I don’t think

Expand full comment

During the wave of bank failures in 2008-2009, the FDIC almost always had an acquiring bank in hand on the day they announced the shutdown, and the shutdowns occurred before the total failure/collapse of those banks. When the FDIC saw a bank on a trajectory to failure, with potential FDIC deposit losses mounting, they would step in. During the days leading up to the announcement, the FDIC would quietly solicit bids and choose the best one. This is a different situation, it seems, with such a huge percentage of huge, uninsured deposits. Perhaps some white knight will come in to save the day, but is that likely? (I don't know.) We do know that SVB itself was trying to find a buyer and was unable to do so. Does the FDIC have some kind of power to force a bank or banks to take on this hot mess to serve the greater good? I guess we'll find out.

Expand full comment

I’m really interested what the knock on effects will be for adjacent banks; First Republic is also popular with startups (though much less singularly focused than SBV) and received a rumored 6B in deposits on Thursday night from startups fleeing SVB. Today (Friday), there were massive withdrawals from FRB to even bigger safer banks like JPM. I don’t think banks like FRB are at high risk of failing, but certainly these wild swings of capital flows have to be causing some goofy effects

Expand full comment

This is a nice encapsulation of what happened. However, more should have been written about the peculiarities of bank financial stability. Anat Admanti's "The Bankers' New Clothes: What's Wrong wit Banning and What to Do about It" goes into great detail on why most banks are technically insolvent. Even with Dodd- Frank, banks are not capitalized to the extent they should be. Fast rising interest rates put balance sheets in jeopardy if government bond holdings are a significant part of the portfolio. This was the case mwith SVB and the was no way they could go out and recapitalization things by a stock issuance.

I hope this is just a one off but suspect that there are more banks in precarious shape.

Expand full comment

Chris Whalen (@rcwhalen) has been banging on about this, even specifically about SIVB back in January. Great interview yesterday on Forward Guidance: https://www.youtube.com/watch?v=vU1g7ZUQkWI - he thinks there's going to be more. How could there not? You have the duration mismatch due to short-term rates going up 500 basis points (can you even really hedge for that?). I've seen estimates from $680B to $1.1T of unrealized losses on banks' balance sheets. The big banks aren't affected as much, but the smaller regional banks..?

Expand full comment

This will not be surprising if it does occur. Many of these banks are under capitalized and there is no way out right now as they cannot issue new stock (one way of raising funds) as there would be no takers. Further consolidation of the banking industry is likely as a result.

Expand full comment

Absolutely agree. And I should point out that I don't agree with Whalen that the Fed should cut 50bps on Monday, but certainly open the discount window and provide emergency support.

It's interesting seeing all the takes on this (everyone apparently has one). I think the one that most people are missing is: how did this happen?! People have such short memories: Spring 2021, rates are at 0%, FOMC says no anticipated rate increase until at least 2024. Last time rates were at 0%, they were there for more than 6 years (2009-2015). It was reasonable to reach for yield. I think it was obviously a terrible (fatal) mistake to do it without hedging. I also think they could/should have started shoring up their balance sheet earlier. These unrealized losses have been growing for a LONG time..

It's a lesson to other banks - start working on a plan NOW..

One thing I hadn't considered is the spillover to stablecoins.. buckle up!

Expand full comment

This is ridiculous. Why is it ok for banks to gamble with deposits while giving depositors low interest?

Oh yeah, deregulation.

https://mattstoller.substack.com/p/silicon-valley-bank-collapse

"In 2018 banks under $700 billion of assets succeeded in lobbying Trump and a Republican Congress to get out from bank rules, like needing to have enough cash on hand to pay back depositors easily, known as a liquidity requirement. The Fed then implemented those rules in a bank-friendly way, contra the wishes of then-Vice Chair Lael Brainard, who warned of potential bank problems like SVB in 2019. That’s likely one reason SVB got into trouble, because it used its political power to eliminate the regulations that would have forced it to have enough cash on hand to stop a bank run. (SVB CEO Greg Becker sold his bank stock just before the collapse, so the sleaziness hasn’t stopped.)"

Expand full comment

What on earth are talking about?

Expand full comment

I updated the post with the issue in better detail.

Expand full comment

This is an odd comment. The banking industry makes something like a 2% spread after loans losses. What is gambling with deposits? Do you think they're stashed in a vault where they magically grow the interest on your deposits and if banks weren't so evil and put them in a better vault you'd make twice as much?

Expand full comment