Bank failures: the importance of risk management

Bank failures: the importance of risk management

Silicon Valley Bank and Credit Suisse They generated a wave of nervousness in the markets because investors today fear that their financial difficulties are a direct consequence of the central banks’ fight against inflation.

Although the two cases are different and this is true in part only for SVB, the common point in both cases is the lack of attention from their risk management areas. This is how the experts consulted by The Economist.

SVB ran out of liquidity

To put it briefly, SVB held a significant amount of long-term US debt as part of its portfolio. But the measures adopted by the Federal Reserve against inflation took their toll.

“When interest rates go up, the price of bonds goes down. With inflation that persists, the Fed has had to raise rates to levels that some did not expect and that has generated large losses in investment portfolios.

“To stop the losses, which were to continue, SVB sold positions, realizing their losses. When savers found out, they began to withdraw their money,” explained Juan Carlos Cruz Tapia, a teacher at EBC.
The run-on-bank phenomenon occurs when many savers try to withdraw their money from the bank at the same time, which runs out of enough cash to pay everyone. Therefore the authorities had to close SVB.

To protect its assets from potential lawsuits by savers or investors, SVB filed for Chapter 11 bankruptcy in the United States. The situation is now placed on the First Republica Bank (FRC).

“What happened is very simple. When you have such large positions you hedge them with a derivative. In the case of debt it is not so simple, people think there is no risk and we have these cases,” said a derivatives trader.

Added to the SVB case was the collapse of Signature Bank. A week later, First Republic Bank accumulated an 80% drop in value on Friday. But without meaning large-scale risks, various authorities agreed.

Credit Suisse’s slow decline

The experts mentioned that the stock market reactions were exaggerated, as well as other movements in risky assets such as currencies. But the situation really escalated when the name of Credit Suisse began to be heard.

Credit Suisse’s ratios are different from those of regional banks in the United States. It is classified as a global systemically important bank by the Financial Stability Board like only 30 other banks.

In 2014, Switzerland’s second-largest bank, with more than 150 years of existence, pleaded guilty to federal charges of facilitating tax evasion for some American clients. This affected his reputation.

In 2020, who was then CEO of the company, Tidjane Thiamresigned amid espionage cases and, just a year later, lost $5.5 billion with the bankruptcy of the speculator fund Archegos Capital.

“Credit Suisse’s situation has been coming for some time, with a history of inadequate risk management and poor results,” said Sebastián Ugalde, an expert in financial risk management, in a Rankia forum.
More money on the stove?

In December Credit Suisse applied for a capital increase and recently, following a weak quarterly report, was told by the Saudi National Bank, its largest shareholder, that it would not provide further financial support due to regulations.
The Swiss National Bank threw in the negative a financial lifeline for Credit Suisse for almost 54,000 million dollars. Experts agreed that this could allow it to operate despite its serious errors.

Following this, the Swiss banking giant UBS reported that it is interested in acquiring Credit Suisse, and that its boards of directors will meet this weekend, separately, according to the Financial Times.
“When you give financial support to a bank with a Credit Suisse track record, it’s like pouring good money into bad. The best thing that could happen with this bank is that it was bought”, affirmed Sebastián Ugalde.

Mexican banks, in a solid position

In the most recent week on the Mexican Stock Exchange (BMV), the losses were led by the shares of banks such as Inbursa, Banorte and BanBajío. That is part of the market’s own exaggerations, said Cruz Tapia.
“Contrary to what happens with regional banks in the United States or what can be seen in the history of Credit Suisse, banks in Mexico have strict controls on risk management and many other issues,” he said.
“Another reason why I can think that Mexican banks will be exempt from problems is that none of them have exposure to these bankruptcies in their portfolios. Also, the savings are protected by the iPad”, he added.

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