The Silicon Valley Bank Failure: Is your financial advisor making the same mistakes with your portfolio?

The failure of Silicon Valley Bank (SVB) has put everyone on high alert. Inflation and a struggling stock market already had people bemoaning the state of the economy, but the collapse of a respected bank that serviced many of the country’s leading tech companies seems like a harbinger of worse things to come.

 

Though SVB’s failure might be an omen for the economy, it reminds us that the miscalculations of a large financial institution can also happen on a smaller scale. SVB’s executives were attempting to do what thousands of consumer-facing financial advisors do for their clients every day: manage portfolio risk. If the financiers at the country’s 16th largest bank – an institution made up of some of the brightest minds and most experienced financial professionals of their generation – can’t properly manage risk, there’s a strong chance consumer-facing financial planners are making the same bad bets. Read on to learn about the mistakes SVB made and how to ensure your financial advisor isn’t making the same mistakes with your money.

 

What happened to Silicon Valley Bank?

 

Before its demise, SVB was one of the largest banks in the United States and had seen tremendous growth in recent years. From 2019 to 2022 alone, its balance sheet grew by 250%. This growth can be credited to the pandemic – when the COVID-19 public emergency forced everyone to stay at home, SVB’s clientele (mostly tech companies and start-ups) reaped the financial rewards of the public’s dependence on technology for work and play. As SVB’s balance sheet grew, it took advantage of the low interest rates paid by depositors and invested these funds in higher yielding mid- and long-term investments like Treasury Bonds.

 

At face value, investing in treasury bonds seems like a safe bet: it’s highly unlikely the government will default on them, and they can be sold easily and quickly made liquid.

 

However, SVB didn’t consider the decline in value of treasury bonds as interest rates rose. It also didn’t consider that its clients were going to use their deposits to fund operations or redeploy their deposits into higher yielding investments as interest rates rose.

 

Trouble began for SVB when the Federal Reserve increased interest rates to curtail inflation. By March 2, 2023, rates were at 4.75% to 5.00%, compared to 0.25% to 0.50% only a year earlier. A huge increase in a short amount of time that caused the value of bonds to fall considerably (15-20% in some cases).

 

Then SVB’s clients awoke seeing the ability to earn more elsewhere, or use their deposited cash to fund flagging operations. To finance client withdrawals, SVB sold billions of dollars’ worth of de-valued bonds and lost $1.8 billion in the process. When SVB posted their losses on March 8, 2023 and announced plans to sell common and preferred stock to raise more money, it was a red flag to SVB’s clients. They began to withdraw all of their money, causing a bank run and ultimately resulting in SVB’s collapse.

 

Though bank collapse is rare, mismanagement of risk in the financial industry is more common than we realize, and I don’t just mean on a billion-dollar level. One of the biggest responsibilities of consumer-facing financial planners (the advisors everyday people like you and me hire to take care of our money) is to manage the risk in their clients’ portfolios. Yet many have a rudimentary understanding of the markets and economy and fail to see the warning signs when their clients’ financial health is at risk.

 

Is your advisor making the same mistakes as Silicon Valley Bank?

 

Silicon Valley Bank made several mistakes that jeopardized investments and led to their demise. Your financial advisor could be mismanaging your money in much the same way SVB did.

 

Mistake #1: They were chasing yield.

Recently, we have witnessed financial planning firms promoting and over-allocating high-yield, or high-profit, investments. Though this is a tempting proposition due to the money high-yield investments can earn, what many fail to recognize is that investing at high-risk can lead to substantial loss. It’s surprising that SVB invested in long-term bonds at a time when the Federal Reserve was telegraphing they were raising rates, but the returns were too good, so SVB took the gamble.

 

To make sure your advisor isn’t chasing yield and is properly managing risk, ask them about your asset allocation:

 

• How much of your portfolio is invested in bonds?
• What’s the term/duration of your bonds? Longer term/duration means a higher risk for loss and large losses when interest rates rise.
• Are those bonds protected from inflation?
• What’s the risk allocation across your entire portfolio?

 

If your advisor dodges these questions or gives vague answers, it’s a red flag.

 

Mistake #2: They did not understand their clients’ cash flow requirements.

Another crucial miscalculation by SVB was not realizing the cash flow needs of their clients. With the tech industry and start-ups taking the brunt of troubles in the economy, SVB should have known investor funding would dry up and its client base would need to withdraw their bank deposits to keep business running.

 

This is a common mistake financial planners also make. Due to a lack of due diligence or plain old incompetence, they fail to recognize when their clients are going to need money to fund big life events, other investments, emergencies, or retirement. So check in with your financial advisor and ask them:

 

• Are they aware of all the big expenses you have planned for the next 12 months?
• Do you have 3-6 months’ worth of living expenses in your emergency fund?
• And if you’re planning to retire in the next 5 years, do they know when you’re planning to retire and where cash flow for retirement is coming from?

 

If they can’t answer all these questions, it’s time to reconsider them as your financial steward.

 

Mistake #3: They didn’t consider their portfolio’s inherent risks.

Inherent risks are basically a worst-case scenario, and auditors and analysts look at inherent risk when reviewing financial statements at the end of the year. Typically, these are based on unpredictable external factors that directly impact your portfolio, its performance, and its short- and long-term future. During a time of high inflation and market downturns, SVB should have closely monitored inherent risk that would impact its portfolio. It was this failure in financial management that contributed to its demise.

 

Your financial advisor also needs to consider inherent risk and look at economic factors that may impact your income streams and investments to make sure you’re on sound financial footing. Ask them if they have factored inherent risk into your portfolio management, and if so, if it’s girded to weather worst-case scenarios – job loss, health problems, big dips in the market, and other financial catastrophes that could reasonably happen.

 

At Winthrop Partners we take pride in getting to know our clients, understanding their needs, and guiding their financial goals and decisions based on their risk profile.

 

When we manage your portfolio, we avoid unnecessary risk and consider your comprehensive financial needs, all of it guided by your goals for the future. We make your money to work for you and ensure it’s there when you need it.

 

Book a call with one of our trusted advisors to learn more about financial planning, investment management, and how to secure a fiscally sound future.

 

Disclosures:

The views, opinions, and content presented are for informational purposes only. They are not intended to reflect a current or past recommendation; investment, legal, tax, or accounting advice of any kind; or a solicitation of an offer to buy or sell any securities or investment services. Nothing presented should be considered to be an offer to provide any product or service in any jurisdiction that would be unlawful under the securities laws of that jurisdiction. Past performance is not a guarantee of future results.