The Shape of Risk

The Federal Deposit Insurance Company (FDIC) announced last Friday month that it had seized and shut down Silicon Valley Bank (SVB) after many customers pulled their assets out when news traveled about the bank’s shaky condition. 

For those of us who were executives or senior managers at Washington Mutual in 2008, this felt like déjà vu – we had been part of the largest U.S. bank failure in history. Some of us had worked subsequently on banking and finance regulation that was designed to ensure that such bank failures would not take place again.  The Dodd Frank legislation included a “too big to fail” clause, that required banks of a certain size to hold reserves against moments of crisis. Ironically, that requirement on capital reserves had been modified by the Trump administration after lobbying from (among others) the CEO of Silicon Valley Bank, Greg Becker:

Trump eased oversight of small and regional lenders when he signed a far-reaching measure designed to lower their costs of complying with regulations. A measure in May 2018 lifted the threshold for being considered systemically important — a label imposing requirements including annual stress testing — to $250 billion in assets, up from $50 billion. (Forbes)

It appears that the regulators saw the threat early on. From the same Forbes article:

To his credit, FDIC Chair Martin Gruenberg’s speech [last week] wasn’t the first time he expressed concern that banks’ balance sheets were freighted with low-interest bonds that had lost hundreds of billions of dollars in value amid the Federal Reserve’s rapid rate hikes. That heightens the risk a bank might fail if withdrawals force it to sell those assets and realize losses.

Headlines screamed that SVB is the largest bank to fail since 2008, when Washington Mutual was seized by the FDIC and sold to JPMorgan Chase (JPMC).  I will never forget September 28, 2008, and the appearance of the FDIC in WaMu Center executive offices.  The FDIC takeover was executed like a military operation, complete with news that WaMu had been sold to JPMorgan Chase. The very next morning, about 100 senior managers were invited to a briefing run by Charlie Scharf from JPMC, who is 15 years later the CEO at Wells Fargo.  We were offered one of three options, and some benefits earned were preserved in the options. At the time, I was a divisional executive at Washington Mutual (WaMu), and I chose to stay on for six months to transition the enterprise programs in crisis management, business continuity, emergency management, and technology change management over to Chase. 

I have thought a lot about why the bank failed and why, in light of the Lehman Brothers and Bear Stearns failures, I did not see more closely the potential for failure rather than buy the “we’ll get through this” message to shareholders, investors and employees.

The experience and writing about it has contributed to my habit now of always looking for the worst case when examining a potentially problematic decision.

In a review of Kirsten Grind’s book about the Washington Mutual failure,  The Lost Bank, I looked at “how the intersection of people, process, systems and external events often lead to financial loss without proper risk management.”  (“Reflections on the Lost Bank,” The Risk Universe, July 2012) 

How important it is to understand and manage factors within control is illustrated by steps being taken these past several months across a range of sectors to reduce footprints and employees, while streamlining products and services and supply chain assumptions.  Each decision made to reduce the number of employees or on buildings/leased space has consequences for financial stability.

From that longer analysis and from years of using Washington Mutual and several other large banks as examples when I teach, here are some considerations that apply to any institution that is considering significant growth and investment in new initiatives at a time where both economic and political forces beyond their control are in play. 

• Even though planning cycles are 3-5 years, reduce your exposure where possible to high risk in times where interest rates begin to rise. It is almost certain that many institutions and businesses will pull back on their own plans, which may also impact your plans.
• Double check the assumptions you have made to project growth while maintaining stability.  How can you be sure your income streams will remain steady in times when we are seeing fewer people going to work or for an education?
• Examine factors outside your own sector that may have unintended consequences on your plans.  Some sectors like transportation, for example, are plagued by deteriorating infrastructure – what impact could that have on either your people or goods and services?

So reading about Silicon Valley Bank is somewhere between déjà vu and flashbacks for many of us who wish still that we could have saved Washington Mutual.  The general shape of risk has not changed that much in the past 15 years, but every time is new.  There is no shortcut or quick fix to making consequential decisions at the right time.  The elements that go into risk management are unchanging: careful, patient and meticulous thinking.

Note: in an early evening decision yesterday, the Federal Reserve, Treasury and the Federal Deposit Insurance Corporation announced that "[SVB] depositors will have access to all of their money starting Monday, May 13. No losses associated with the resolution of Silicon Valley Bank will be borne by the taxpayer."  In making this decision, the government relied upon an option to keep the collapse of a large institution from inflaming the financial system and causing further disruption. At the same time, the government shut down Signature Bank, whose  depositors will also be made whole. These two decisions will be widely debated in the coming days, since they are at variance with standard federal practices.