Bank Capital Revamp Omits Long-Term Asset Issue That Felled SVB

The phonebook-sized plan from US bank regulators that would force banks to boost their capital buffers doesn’t touch a key reason that led to the demise of Silicon Valley Bank: deep losses in the bank’s stash of long-term assets.

Banks with at least $100 billion in assets would have to include gains or losses in the assets they label “available for sale” when they calculate their capital ratios, under the regulators’ new plan. But the proposal, unveiled by the Federal Reserve, Federal Deposit Insurance Corp., and the Office of the Comptroller of the Currency on July 27, doesn’t call for changing how banks consider gains or losses on assets they intend to hang onto until they mature or any restrictions on how much money banks can put in this category.

FDIC Vice Chairman Travis Hill noted the omission in his vote against the plan.

“While the proposed change may have reduced the likelihood of the specific catalyst that triggered the run on Silicon Valley Bank, it would have done little to address the underlying, fundamental issue of SVB’s bond losses, 85% were on its held-to-maturity portfolio and thus unaffected by the proposal,” said Hill, who also said banks were already well capitalized and the proposal would put them at a disadvantage to international banks.

The regulators made the right call in not touching requirements for so-called held-to-maturity assets, said Peter Vinella, managing director at consulting firm PVA Toucan International.

Requiring banks to hold more capital against these safe securities would make capital more expensive and give banks an incentive to invest in riskier assets, he said.

“It kind of defeats the whole purpose of the hold-to-maturity category,” Vinella said.

SVB’s Problems

US accounting rules require banks to classify their assets—and measure them—based on what they plan to do with them. Assets they plan to hang onto long-term get labeled “held to maturity” and get tallied at amortized cost, the price they paid with some adjustments. Assets a bank plans to sell are labeled “available for sale,” and are recorded at fair value, the price they would fetch in an orderly market. Bank regulators typically tie their regulations to US GAAP financial statements.

SVB put much of its extra money from its startup-heavy customers into what the bank—and regulators— viewed as safe, long-term holdings such as long-dated treasury bills and government- and agency-issued mortgage-backed securities.

Accounting rules dictate that if the value of these long-term assets fluctuate in value, there’s no impact on bank earnings. Increases or decreases in value also don’t affect the capital buffers regulators require to offset bank losses.

SVB bought those long-term assets during a period of historically low interest rates. When rates soared, the value of the assets plummeted. By the end of 2022, its held-to-maturity holdings were underwater—on paper—by $15.1 billion.

Regulators can’t change how held-to-maturity assets are accounted for. That’s the purview of accounting standard-setters.

“However, bank regulators can certainly prohibit gains in held-to maturity portfolios to count as capital,” said Mayra Rodríguez Valladares, managing partner of consultancy MRV Associates and a former New York Fed staffer.

Overall, the regulator proposal better links capital requirements to the level of bank risk taking, but it doesn’t address the liquidity problems that appeared at SVB, Signature Bank, and First Republic Bank during the spring crisis, said Mark Williams, finance professor at Boston University and a former bank examiner.

SVB’s concentrated business model and large proportion of uninsured, high-dollar deposits concentrated among venture capitalists and tech startups exacerbated its problems. Two days before its ultimate collapse, SVB announced it needed to raise cash, and skittish customers pulled their money.

“SVB proved there needs to be a direct link between held-to-maturity and making sure there’s adequate capital, because clearly there wasn’t for SVB,” Williams said.

While the regulators’ proposal doesn’t call for changes to held-to-maturity assets, it asks the public a question about “complementary” measures the banking agencies should consider regarding the capital treatment of the assets.

“I thought more attention would be made to HTM and unrealized losses,” said Stephen Masterson, managing partner and co-leader of risk advisory services at advisory firm CFGI. “I thought the regulators when they came out with all this stuff would try to tackle it.”

But banking regulators appear to be respecting the line between what is their responsibility and what belongs in the purview of accounting standards-setters “almost to the letter,” Masterson said.