Market Commentary | March 16, 2023


Silicon Valley Bank’s Collapse and Why it Brings Opportunity

You have likely heard about last week’s sudden implosion of Silicon Valley Bank (SVB).  We want to share our insights into what is happening and most importantly, what it may mean for you.

  1. Are your assets at risk?

No, your investment assets at 2MC are held at Wells Fargo Clearing Services, not a bank like SVB.

  1. How likely is this to extend to other regional banks?

Most banks benefit from higher interest rates as they can make more money on their loans, but SVB didn’t extend many loans, instead opting for long-dated bonds such as 10-year U.S. Treasuries.  In any other environment that might be a safe place for a bank to put its money but given the rapid pace of Fed hikes the market price of 10-year treasuries has dropped substantially.  Depending on the vintage and their initial coupon the bank may have lost as much as 40% on these assets.  As customers got nervous and pulled out their deposits it caused the bank to have to sell their bonds and other assets at these severely depressed prices, thereby realizing what was previously just a paper loss. With these losses, SVB no longer had enough capital to cover customer deposits.

On Friday, 3/10/23, the California Dept of Financial Protection and Innovation took possession of SVB, appointed the FDIC as the receiver, and a plan was swiftly put in place to backstop the full value of customers’ deposits.  With the government taking a clear stance on protecting customer bank deposits we think it is unlikely to spread beyond a small number of regional banks.

  1. What does it mean for this interest rate tightening cycle?

In brief, it brought rate hikes significantly closer to being done.

The futures market anticipates a roughly 50% chance of a 25 basis point Fed Funds hike and a 50% chance of no hike.  This is sharply lower than previous anticipation which called for 50 basis points this session followed by a couple more 25s.  Our base case is 25 basis points and then done.

  1. What does it mean for REITs?

In the immediate term, it is volatility but medium term and longer term it is opportunity.  We have been through market volatility before and almost invariably it creates price dislocations that afford getting into great companies at well below fair value.

We think the ripple from the Silicon Valley Bank failure will extend through venture capital and startups that need more funding, but not be contagious to the broader economy.  We do not see a link by which this will materially impact the business of REITs.  Some of the best opportunities are found when good businesses are lumped in with the bad.

REITs have gotten opportunistically cheap with median FFO multiples (earnings for REITs) at just over 12X.  That is the cheapest they have been in over a decade with the exception of the very bottom of the COVID panic.

Each time REITs have gotten to this level of value in the past it has been a phenomenal time to invest in REITs.

  • 1999: REITs were cheap because they weren’t as exciting as dot com internet stocks.
  • 2007-2010: REITs got cheap in the Financial Crisis.
  • 2020: COVID crashed the entire market.

Today, REITs have significantly lower debt levels than they did in the past.

REIT earnings have been growing consistently outside of the pandemic.

There are some great opportunities right now – high growth REITs that we previously didn’t like because they were too expensive but are now cheap, and high quality, value real estate available at 70% of fair market value.

We appreciate your continued investment with us.

Notes and Disclosure

Articles are provided for informational purposes only. They are not recommendations to buy or sell any security and are strictly the opinion of the writer. The information contained in these articles is impersonal and not tailored to the investment needs of any particular person. It does not constitute a recommendation that any particular security or strategy is suitable for a specific person.

Investing in publicly held securities is speculative and involves risk, including the possible loss of principal. The reader must determine whether any investment is suitable and accepts responsibility for their investment decisions.

Commentary may contain forward-looking statements that are by definition uncertain. Actual results may differ materially from our forecasts or estimations, and 2MCAC and its affiliates cannot be held liable for the use of and reliance upon the opinions, estimates, forecasts, and findings in this article.

Past performance does not guarantee future results. Investing in publicly held securities is speculative and involves risk, including the possible loss of principal. Historical returns should not be used as the primary basis for investment decisions. Although the statements of fact and data in this report have been obtained from sources believed to be reliable, 2MCAC does not guarantee their accuracy and assumes no liability or responsibility for any omissions/errors.

We routinely own and trade the same securities purchased or sold for advisory clients of 2MCAC. This circumstance is communicated to clients on an ongoing basis. As fiduciaries, we prioritize our clients’ interests above those of our corporate and personal accounts to avoid conflict and adverse selection in trading these commonly held interests.

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