A Silicon Valley Bank office in Tempe, Arizona, on March 14, 2023.
Rebecca Nobel | AFP | Getty Images
The panic-induced customer withdrawals that imploded Silicon Valley Bank and Signature Bank — sending shockwaves through the financial markets and the wider banking system — offer a poignant lesson in human psychology.
In this case, an understandable “behavioral bias” led to poor financial results, experts said.
“Psychology brings a lot of additional risk to the world,” said Harold Shefrin, a behavioral finance expert and professor of finance at Santa Clara University. “And we experienced that risk last week — from Silicon Valley Bank and the reactions from its depositors.”
Customer fears became a self-fulfilling prophecy
Our brains are programmed for a bank run.
Humans have evolved as social creatures that thrive in groups, said Dan Egan, vice president of behavioral finance and investing at Betterment. That is why we care deeply about what others think and do.
Read more CNBC coverage of the banking crisis
Why the bank run on SVB seemed ‘rational’ to some
There are firewalls against this kind of behavior. The Federal Deposit Insurance Company., or FDIC, backstops bank customer savings up to $250,000.
This insurance program was created in 1933. At that time, there was widespread hysteria during the Great Depression overthrown thousands of banks in rapid succession.
FDIC insurance aims to build confidence that the government will make customers well — up to $250,000 per depositor, per bank, per asset class — if their bank fails.
“Before the creation of the FDIC, large-scale cash demands from anxious depositors often were the fatal blow to banks that might otherwise have survived,” said one chronicle of the agency’s history.
SVB’s customer base included many companies, such as technology startups, with high levels of uninsured deposits (i.e., those in excess of $250,000). In December, about 95% of the bank’s deposits were uninsured, according to SEC filings.
Its failure illustrates some principles of behavioral finance.
One is “information asymmetry,” a concept popularized by economist and Nobel laureate George Akerlof, Shefrin said. Akerlof, the husband of Secretary of the Treasury Janet Yellen, analysed how markets can collapse in the presence of asymmetric (or uneven) information.
His 1970 essay, “The Market For Lemons,” focuses on the market for old and broken-down used cars (popularly known as lemons). But information asymmetry applies to many markets and was a source of the Silicon Valley Bank collapse, Shefrin said.
The bank said on March 8 that it sold $21 billion in securities at a loss and was trying to raise money. That announcement caused panic, amplified by social media. Customers saw colleagues running for the exits and didn’t have the time (or perhaps the insight) to go through the bank’s financial statements and assess whether the bank was in deep trouble, Shefrin said.
Rational market theory predicts that customers with uninsured deposits — the bulk of their customers — would move to protect themselves and safeguard their savings, he said.
Psychology injects a lot of extra risk into the world.
Harold Shefrin
professor of finance at the University of Santa Clara
“If you have more than $250,000 in the bank, you have to assume the worst due to lack of information,” Shefrin said. “And unfortunately it becomes rational for you to participate.”
So a bank run.
But the same rationality doesn’t necessarily apply to bank customers whose deposits are fully insured because they don’t risk losing their money, experts said.
“If you have less than $250,000, and if you don’t have to pay payroll or feed your family, then you don’t have to rush,” says Meir Statman, a behavioral finance expert and finance professor at the Santa Clara University. “In this case, (taking your money) isn’t a rational or smart thing to do.”
Bank officials also displayed a psychological “failure” in their initial announcement of their need to raise money, Shefrin said. They didn’t understand the concept of “market signaling” and couldn’t foresee how their communication of information could create panic, he said.
“If you don’t rationally understand how the market interprets signals, you can make a mistake like Silicon Valley Bank,” Shefrin said.
Behavioral bias probably amplified a bank run
Anxiety among savers also appears to be amplified by behavioral bias, Egan said.
Placing all deposits in a bank with like-minded technology company founders could mean that customers experienced the same fears at the same time, similar to an echo chamber, he said.
Diversifying savings in excess of $250,000 across multiple banks — so that no account exceeds the FDIC insurance limit — is a rational solution to relieve stress and anxiety, Egan said.
The Biden administration stepped in on Sunday to allay concerns among depositors. Regulators stopped all uninsured deposits at SVB and Signature Bank and provided funding to troubled banks. Eleven Wall Street banks on Thursday injected $30 billion into First Republic Bank, a smaller player that appeared to be on the verge of collapse, to help bolster confidence in the banking system.
Given the government’s recent backstops, there is “no reason” that savers should run for the doors, said Mark Zandi, Moody’s Analytics chief economist.
“But confidence is very fickle,” Zandi said. “It’s here today, gone tomorrow.”
