By Stéphane Reverre and Chadi El Adnani @SUN ZU Lab
March 2023
Following the first article last week, where we analyzed in detail the behind-the-scenes of SVB’s fall, and after another crazy weekend with the mega-deal between UBS and Credit Suisse, one of the biggest since the GFC in 2008, we are happy to provide some further analyses on the ongoing situation.
Deal terms:
Swiss authorities sprinted over the weekend to engineer a takeover of spiraling Credit Suisse before the markets opened on Monday, a globally accomplished mission. However, nervousness was mounting on Monday in the markets following Sunday’s announcement that UBS will buy Credit Suisse for CHF 3 bn, a 95% discount to the bank’s 2010 market capitalization levels. Under the deal’s terms, Credit Suisse shareholders will receive one UBS share for every 22.48 Credit Suisse shares held, or CHF 0.76 per share (Credit Suisse closed Friday at 1.86 Swiss francs). This rescue, organized by the Swiss authorities to avoid a loss of confidence in the global banking system, was made at the cost of significant guarantees given by the Swiss government to UBS. Credit Suisse declared it intends to hand out bonuses to its staff despite the rescue deal.
Moreover, following the historic deal on Sunday, FINMA ordered that CHF 16 bn of Credit Suisse’s additional Tier one (AT1) bonds be written down to zero. AT1s were introduced as part of the post-GFC regulatory reforms to push banks to increase their capital levels. They are a form of contingent convertible security (coco) that can be converted into equity in case of trouble. This surprising decision will likely shock the market due to the hierarchy inversion between equity and bondholders. European financial regulators expressed concerns around the Swiss authorities’ decision, issuing statements on Monday to reassure holders of additional tier 1 (AT1) bonds in eurozone banks that they would not suffer the same fate as those at Credit Suisse.
How did we get here?
The 167-year-old financial institution was mismanaged for years before its collapse: conviction for cocaine-money laundering in June 2022, leaks about $8 bn in accounts of criminals, dictators, and rights abusers held by the bank in February 2022, $5.5 bn loss following Archegos default and Greensill fund collapse in March 2021, etc. Last week, the global panic surrounding the banking industry caused massive outflows from the bank (up to $10 bn per day, according to the WSJ), bringing CS to the brink of collapse.
How is the situation looking from the US side?
We learned that SVB priorly hired BlackRock’s consulting arm, Financial Markets Advisory (FMA), to analyze the potential impact of various risks on its securities portfolio. The report found that the bank lagged behind similar banks on 11 of 11 factors considered and was “substantially below” them on 10 out of 11. BlackRock’s consultants found that SVB could not generate real-time or even weekly updates about the state of its securities portfolio, but the bank didn’t take any follow-up actions. The bank was also on the Fed’s radar for over a year before its collapse; the WSJ reported that SVB was using an incorrect model as it assessed its own risks amid rising interest rates and spent much of 2022 under a supervisory review. The fair conclusion is that we’re facing a massive failure of risk management, nothing more, nothing less. Senior management failed to adjust its practices and business mix and assess the implication of the yet all-too-visible inflationary pressures with its train of rate hikes.
Regarding the upcoming FOMC meeting this week, Whatever decision the Fed takes will be heavily criticized. Suppose it decides to raise its main policy rate by 50 basis points (which would be legitimate given the level of inflation). In that case, it will be criticized for adding to the banking sector’s difficulties. This will also be the case if it raises its rate by only 25 basis points (which the market sees as the most likely scenario). Some analysts consider that it could take a break from monetary policy. This is challenging as it risks losing credibility in the fight against high inflation. Moreover, resuming a rate hike cycle quickly after stopping it is difficult. Finally, a rate cut would risk accentuating the panic and underlining that the situation on the banking front is undoubtedly worse than expected… In any case, the Fed seems bound to fail on Wednesday.
What happened as well?
- Signature board member Barney Frank claimed last week that the bank’s seizure was a political move caused by anti-crypto sentiment. At the same time, Reuters reported that the FDIC wanted Signature buyers to “give up” the bank’s crypto activities. The FDIC denied both news, revealing that Signature had suffered a $50 bn run on deposits before its closure.
- First Republic Bank, facing a crisis of confidence from investors and customers, received a $30 bn lifeline last week from a group of America’s largest banks. The bank’s stock was nonetheless down 17% ahead of the opening this morning, extending Friday’s 33% plunge.
- Gold breached $2000 an ounce while BTC is trading above $28K as the banking crisis sparks a flight to (safety) “something else” movement.
- In total, the latest data released by the Fed confirms the extent of the liquidity support given to banks. Last week alone, the Fed’s balance sheet increased by $300 billion — wiping out almost half of the Quantitative Tightening implemented since last June.
Last thoughts:
After Lehman Brothers, Bear Sterns, SVB, Credit Suisse, First Republic… senior bank management should not doubt anymore: poor risk management will kill in the blink of an eye. Crypto players, whether CeFi or DeFi, should not feel immune from this. If we had one primary piece of advice to the community, it would be K.Y.R, Know Your Risks! which is probably not so frequent in crypto.
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SUN ZU Lab is a leading data solutions provider based in Paris, on a mission to bring transparency to the global crypto ecosystem through independent quantitative analyses. We collect the most granular market data from major liquidity venues, analyze it, and deliver our solutions through real-time dashboards & API streams or customized reporting. SUN ZU Lab provides crypto professionals with actionable data to monitor the market and optimize investment decisions.
