This case is a reference point when a bank reviews how it measures and limits interest rate risk in the banking book and how it sets its hedging policy.

What happened

On March 10, 2023, the California financial regulator (CDFPI) closed Silicon Valley Bank (SVB) and appointed the Federal Deposit Insurance Corporation (FDIC) as receiver1. SVB was the main subsidiary of the holding company SVB Financial Group (SVBFG), and a state-chartered member of the Federal Reserve System. SVBFG's total assets were about USD 212 billion at the end of December 20222. Below, SVB means the bank and SVBFG means the whole group, including the holding company.

SVB and SVBFG were supervised by the Federal Reserve Board (FRB) and, under it, the Federal Reserve Bank of San Francisco. On April 28, 2023, the FRB published a review of the causes of the failure, including its own supervision and regulation (the review)3.

The review lists the removal of SVBFG's hedges against rising rates as one weakness in its interest rate risk management4.

Background

Deposit growth and long-term securities

SVBFG's clients were concentrated in technology and life sciences companies backed by venture capital (VC). More than half of its deposits at the end of December 2022 came from VC-backed companies5. When VC investment rose in 2021 and early 2022, the funds that clients received were deposited with SVBFG, and its deposits grew. Its total assets grew 271% from the end of 2018 to the end of 2021, against 29% for the banking industry6.

Most deposits were uninsured: about 94% of deposits at the end of December 20227. SVBFG invested a large part of these deposits in long-dated securities, including mortgage-backed securities issued or guaranteed by the government or government agencies (agency MBS). The average duration of its held-to-maturity portfolio was 6.2 years at the end of December 2022, and most of it was agency MBS with maturities of 10 years or more8.

Item (end of December 2022) SVBFG Large bank average
Loans (% of total assets) 35% 58%
Securities (% of total assets) 55% 25%
Held-to-maturity securities (% of securities) 78% 42%
Uninsured deposits (% of deposits) 94% 41%
Common equity Tier 1 ratio 12% 10%

The large bank average is the weighted average of bank holding companies and savings and loan holding companies with more than USD 100 billion in assets, excluding the largest banks9.

Held-to-maturity securities and unrealized losses

Held-to-maturity securities (HTM) are carried at amortized cost, so a fall in market value does not change their balance sheet value. The amount by which the price falls below the purchase level is an unrealized loss. It is disclosed in the financial statements but does not change the asset's balance sheet value. In general, selling part of the HTM portfolio requires reclassifying the whole portfolio as available-for-sale (AFS) and marking it to market10.

When rates began to rise in 2022, unrealized losses on both HTM and AFS securities grew rapidly. Because most securities were in HTM, SVBFG had limited room to adjust its position by selling11.

Two measures of interest rate risk

There are two main measures of interest rate risk. One shows how net interest income (NII) changes over about the next year when rates move by amounts such as 100bp or 200bp, given an assumption about how far deposit rates follow market rates (the deposit beta). The other is EVE, the difference between the present values of assets and liabilities, which shows the mismatch in their durations over a longer horizon12.

The risk appetite framework set by SVBFG's board had only an NII measure and no EVE measure. The NII measure covered only a 100bp fall in rates over 12 months. Only parallel shifts of the yield curve were measured, and non-parallel moves were not reported to the asset-liability management committee13.

Timeline

The main events from March 2022 to April 2023 unfolded in the order shown in Figure 1.

March2022Starts removing hedges againstrising ratesApril2022Switches to a longer depositduration assumptionMarch 8,2023Completes a securities sale andannounces a planned equity raiseMarch 9Deposits flow out heavily in one dayMarch 10The state regulator closes SVB andappoints the FDIC as receiverApril 28,2023The FRB publishes its review
Figure 1Key dates around the collapse of SVB
Figure description

The timeline lists the main events around the collapse in chronological order. The filled dot marks the closure. Spacing is not proportional to elapsed time. The events of July and November 2022 and March 12, 2023 are left out of the figure and appear in the table below. The changes to interest rate protection came first, and the outflow and the closure followed within days.

Date Event
March 2022 Starts removing hedges that protect NII when rates rise14
April 2022 Switches to a longer deposit duration assumption, which narrows the duration gap in the model15
July 2022 Removes the remaining hedges16
November 2022 Supervisors say the interest rate risk simulations are unreliable and need improvement17
March 8, 2023 Completes a sale of about USD 21 billion of AFS securities (an after-tax loss of about USD 1.8 billion) and announces a planned USD 2.25 billion equity raise18
March 9, 2023 More than USD 40 billion of deposits flow out in one day, and outflows of more than USD 100 billion are expected the next day19
March 10, 2023 The CDFPI closes SVB and appoints the FDIC as receiver20
March 12, 2023 Actions to protect all depositors are approved, and additional funding is announced21
April 28, 2023 The FRB publishes its review22

What the review identified as causes

The review ties the failure of SVBFG directly to its board and senior management not managing the risks of the business. It was the result of several factors combined, not of a single one23.

Interest rate risk management

SVBFG had exceeded its long-term interest rate risk limits on and off since 2017, because of the structural mismatch between long-duration securities and short-duration deposits24.

In April 2022, based on a consultant's study and in-house analysis, SVBFG switched to an assumption that deposits last longer. In the internal model, this narrowed the duration gap between assets and liabilities and made the risk look smaller, but no risk had left the balance sheet. The review says the basis for the assumption was not shown, for four reasons: the recent surge in deposits, the lack of historical data, the shortening of deposit duration as rates rose sharply, and the unusual client base. In its view, SVBFG changed an assumption, not the balance sheet, to change the reported risk15.

Removal of interest rate hedges

In early 2022, as rates rose rapidly, SVBFG became concerned about a decline in NII if rates fell, because it read the inverted yield curve as a sign of a coming recession and lower rates. It positioned its balance sheet to protect NII against falling rates and did not protect it against rising rates25.

The hedges that SVBFG removed protected NII when rates rose. They also held back NII growth when rates fell. SVBFG saw rising rates as a chance to lock in profits on the hedges, began removing them in March 2022, and removed the rest in July 202226.

Without the hedges, nothing holds back NII growth if rates fall, and nothing protects NII if rates rise. Removing the hedges lengthened the duration of the securities and worsened the EVE measure throughout 2022. The improvement from the deposit duration assumption was temporary. Rates did rise, non-interest-bearing deposits shifted into interest-bearing ones, the duration of liabilities shortened, and the gap widened again27.

Deposit outflows and liquidity

On March 8, SVBFG announced the completed securities sale and a planned equity raise as part of a balance sheet restructuring. The same day, Silvergate Capital announced the liquidation of its subsidiary Silvergate Bank, which also affected how depositors saw SVBFG. Uninsured depositors took the March 8 announcements as a sign that SVBFG was in distress and began withdrawing deposits on March 9. The run appears to have been fueled by social media and by the tightly linked network of VC-backed and technology clients, and it moved with unprecedented speed. SVB did not have enough cash or collateral to meet the outflows expected on March 1028.

Liquidity management was also weak. After SVBFG became subject to enhanced prudential standards in July 2022, it repeatedly failed its own liquidity stress tests. Management switched to less conservative assumptions, which hid part of the risk29.

Supervision and regulation

Supervisors found weaknesses in interest rate risk management in the 2020, 2021, and 2022 examinations but did not issue a supervisory finding until November 2022. They had planned to lower the rating, but SVB failed before the downgrade was finalized30.

On regulation, the FRB's 2019 tailoring of requirements to each large bank lowered the capital and liquidity requirements that applied to SVBFG. The review estimates that under the pre-2019 requirements, SVBFG's high-quality liquid assets would have fallen about 9% short of the liquidity coverage ratio requirement in December 2022. If the rules had required AFS unrealized losses to be reflected in regulatory capital, regulatory capital would have been USD 1.9 billion lower. Higher requirements would not necessarily have prevented the failure, but they would likely have made SVBFG more resilient31.

What changed afterward

On March 12, 2023, the US Treasury Secretary approved actions that let the FDIC resolve SVB and Signature Bank in a way that protects all depositors, insured and uninsured. The FRB created a funding program for banks, the Bank Term Funding Program (BTFP), which lends for up to one year against collateral such as Treasuries and agency debt, valued at par. The Treasury said it would make up to USD 25 billion available from the Exchange Stabilization Fund to back the program32.

The review organizes its lessons under four themes: enhancing risk identification, promoting resilience, changing supervisor behavior, and strengthening processes. It notes that these are ideas that may warrant further consideration, not finished proposals. The resilience theme includes reconsidering how interest rate risk is reflected in assessments of regulatory capital33.

Under the Basel framework, interest rate risk in the banking book is not subject to a Pillar 1 capital charge. It is handled under Pillars 2 and 334. Its place in the Basel framework is covered in The Basel Framework and Derivatives.

Notes

  1. Board of Governors of the Federal Reserve System, "Review of the Federal Reserve's Supervision and Regulation of Silicon Valley Bank" (external site) (April 2023), p. 24 (PDF p. 38), "SVB's Failure." ↩

  2. The review (external site), p. 2 (PDF p. 16), and footnote 27 on p. 17 (PDF p. 31). The state member bank status is also on p. 17. ↩

  3. The review (external site), the opening letter (April 28, 2023; PDF pp. 3–4) and p. 5 (PDF p. 19; roles of the Board and Reserve Banks). ↩

  4. The review (external site) refers to these only as interest rate hedges and does not state the type of financial instrument (PDF pp. 17, 38, and 77). ↩

  5. The review (external site), p. 19 (PDF p. 33). ↩

  6. The review (external site), p. 19 (PDF p. 33). ↩

  7. The review (external site), p. 21 (PDF p. 35). ↩

  8. The review (external site), p. 21 (PDF p. 35). ↩

  9. The review (external site), p. 23 (PDF p. 37), table 1. ↩

  10. The review (external site), pp. 21–22 (PDF pp. 35–36) and footnote 40. ↩

  11. The review (external site), p. 22 (PDF p. 36) and figure 9. ↩

  12. The review (external site), p. 61 (PDF p. 75). ↩

  13. The review (external site), p. 62 (PDF p. 76). ↩

  14. The review (external site), p. 63 (PDF p. 77). ↩

  15. The review (external site), p. 3 (PDF p. 17) and p. 63 (PDF p. 77). ↩ ↩2

  16. The review (external site), p. 64 (PDF p. 78). ↩

  17. The review (external site), p. 6 (PDF p. 20). ↩

  18. The review (external site), pp. 23–24 (PDF pp. 37–38). ↩

  19. The review (external site), p. 24 (PDF p. 38). ↩

  20. The review (external site), p. 24 (PDF p. 38). ↩

  21. Board of Governors of the Federal Reserve System, press release (external site) (March 12, 2023). ↩

  22. The review (external site), the cover date and the opening letter. ↩

  23. The review (external site), pp. 2–3 (PDF pp. 16–17) and p. 5 (PDF p. 19). ↩

  24. The review (external site), p. 3 (PDF p. 17). ↩

  25. The review (external site), p. 63 (PDF p. 77), "Balance Sheet Mismanagement." ↩

  26. The review (external site), pp. 63–64 (PDF pp. 77–78). ↩

  27. The review (external site), pp. 63–64 (PDF pp. 77–78). ↩

  28. The review (external site), p. 24 (PDF p. 38). ↩

  29. The review (external site), p. 3 (PDF p. 17). ↩

  30. The review (external site), p. ii (PDF p. 8). ↩

  31. The review (external site), p. iii (PDF p. 9) and p. 13 (PDF p. 27). ↩

  32. Board of Governors of the Federal Reserve System, press release (external site) (March 12, 2023). ↩

  33. The review (external site), pp. 95–96 (PDF pp. 109–110). ↩

  34. Financial Services Agency of Japan, "Overview of the Basel Framework" (in Japanese) (external site) (August 2026), p. 19, "Interest Rate Risk in the Banking Book (IRRBB)." ↩