Silicon Valley Bank Failure
Silicon Valley Bank was put into receivership by the FDIC on Friday, March 10. It was the largest Federal Reserve/FDIC-backed bank failure since the 2008 financial crisis and the second largest ever. Its failure is a reminder that bank deposits are not entirely safe and that actions should be taken if a bank account holds more than $250,000 of deposits.
Due to business circumstances unique to them, Silicon Valley Bank had significant depositor withdrawals, which then forced the bank to sell assets at a loss to cover the withdrawals. These losses became a cause for concern for large depositors as their deposits exceeded the $250,000 that the FDIC insures in event of a bank failure. These depositors then withdrew massive amounts of capital that the bank could not sustain, resulting in the FDIC takeover. A similar series of events occurred with Signature Bank and it, too, was taken over by the FDIC this weekend.
To help forestall similar runs on bank deposits, the Federal Reserve and Treasury agreed to make loans to banks against various assets so that these assets do not have to be sold at losses to meet deposit withdrawals. Furthermore, they agreed to provide FDIC coverage to all depositors for these two banks regardless of the amount on deposit. It is unclear whether the FDIC will expand this unlimited FDIC insurance coverage to all banks, as they temporarily did in 2008.
Deposits of up to $250,000 are backed in full by the FDIC. Deposits larger than $250,000 are at risk of not being paid in full. Smaller banks with specialized lending and deposit bases are more susceptible to runs on their deposits when they come under stress. The very large diversified banks are much safer, though one can never know for sure.
What is certain is that there is no good reason to keep more than $250,000 deposited at a single bank, unless the deposit owners are different (e.g., joint account versus individual versus corporate account).
If a depositor has more than $250,000 in a bank deposit, there are several ways to reduce the risk of loss. One can add more banks and keep the amounts under $250,000. One easy way to do this is via a brokerage account that allows the account owner to buy brokered bank certificates of deposit (CDs). An investor can put together a portfolio of CDs, all under $250,000, from different banks.
Owning T-bills is a good alternative too as they are fully guaranteed by the U.S. government with no upper limit on coverage. T-bills come in 3, 6, and 12-month maturities and can be bought and sold easily before maturity. A bonus is that interest earned is exempt from state income taxes.
Money market mutual funds come in many types. A Treasury money market fund owns T-bills. It has the advantages mentioned above, it can be bought or sold daily with ease, and an investor doesn’t have to make decisions about which maturities to choose and what to do when a T-bill matures.
Traditional money market mutual funds own assets that can include T-bills but are also likely to own very short-term obligations of other entities (e.g., corporate commercial paper). While not government-guaranteed, the very high quality of the issuers and the number of different issuers provides very strong protection from loss. They typically pay a bit more than Treasury money market funds and therefore may be more appropriate for tax-exempt entities (IRAs, Roth IRAs, …).
Most bank deposits pay considerably less than T-bills, brokered CDs, or money market mutual funds. Banks tend to pay less simply because they can get away with it.
If you have concerns about having too much deposited at a single bank or you are not satisfied with the interest rate they are paying, please contact an advisor at WESCAP Group. We can discuss current interest rates and the alternatives that exist to traditional bank deposit accounts.