BlackRock’s advisory arm warned Silicon Valley Bank, the California-based lender whose bankruptcy sparked a banking crisis, that its risk management was “significantly lower” than its peers by early 2022, several people with direct knowledge of the assessment said.
SVB hired BlackRock’s Financial Markets Advisory Group in October 2020 to analyze the potential impact of various risks on its securities portfolio. It later expanded the mandate to examine the risk systems, processes and people in its treasury department, which managed investments.
The January 2022 risk management report gave the bank a “gentleman’s C,” finding that SVB lagged peer banks on 11 of 11 factors examined and was “significantly lower” on 10 of 11, the people said. The advisers found that the SVB was unable to generate real-time or even weekly updates on what was happening with its securities portfolio, the people said. SVB listened to the criticism, but turned down offers from BlackRock to do follow-up work, she added.
SVB was acquired by the Federal Deposit Insurance Corporation on March 10 after it announced a $1.8 billion loss on its sale of securities, leading to a stock price collapse and a run on deposits. It reinforced fears of greater paper losses that the bank harbored in long-term securities that lost value when the Fed raised interest rates.
The FMA Group analyzed how SVB’s securities portfolios and other possible investments would respond to various factors, including rising interest rates and broader macroeconomic conditions, and how that would affect the bank’s capital and liquidity. The scenarios have been selected by the bank, say two people familiar with the work.
While BlackRock made no financial recommendations to the SVB in that review, the work was presented to the bank’s senior management, who “confirmed that management was on track” in building its securities portfolio, a former SVB executive said. The director added that it was “an opportunity to highlight risk” that the bank’s management has missed.
CFO Daniel Beck and other top executives at the time were looking for ways to boost the bank’s quarterly revenues by boosting the yield of securities on its balance sheet, people briefed on the matter said.
The review looked at scenarios including interest rate rises of 100 to 200 basis points. But no model took into account what would happen to the SVB’s balance sheet if interest rates rose sharply, such as the Federal Reserve’s rapid hikes to a 4.5 percent base rate last year. Interest rates were at a low point at the time and had not been above 3 percent since 2008. That consultation was concluded in June 2021.
BlackRock declined to comment.
SVB had already started absorbing large interest rate risks to bolster earnings before the BlackRock review began, former employees said. The consultation did not take into account the deposit side of the bank and so did not address the possibility that the SVB would be forced to quickly sell assets to meet the outflow, several people confirmed.
The FDIC and California banking regulators declined to comment. A spokesperson for the SVB group did not respond to a request for comment.
While the BlackRock review was going on, tech companies and venture capital firms poured a deluge of cash into SVB. The bank used BlackRock’s scenario analysis to validate its investment policy at a time when management focused heavily on the bank’s quarterly net interest income, a measure of income from interest-bearing assets on the balance sheet. Much of the money ended up in long-term, low-yield mortgage securities that have since lost more than $15 billion in value.
The Financial Times previously reported that in 2018, under a new regime of financial leadership led by CFO Beck, SVB – which traditionally kept its assets in securities with maturities of less than 12 months – shifted to debt with maturities of 10 years or later to boost returns. It built a $91 billion portfolio with an average interest rate of just 1.64 percent.
The maneuver boosted SVB’s income. Return on equity, a closely monitored profitability measure, rose from 12.4 percent in 2017 to more than 16 percent in every year from 2018 to 2021.
But the decision failed to take into account the risk that rising interest rates would both lower the value of the bond portfolio and lead to significant deposit outflows, insiders said, exposing the bank to financial pressures that would later lead to its demise.
“And [Beck]’s focus was on net interest income,’ said one person familiar with the matter, adding, ‘it worked until it failed’.