The new administration is here, ushering in a phase of uncertainty surrounding banking regulations and the state of the regulatory agencies themselves.
Beyond the usual avenues of rule-making and enforcement actions, a flurry of movement in the courts also offers up an additional way to shape corporate policy and internal operations — where lawsuits can be instructive to the industry at large.
One such suit, filed last week by the Federal Deposit Insurance Corp. (FDIC) against 17 former executives tied to Silicon Valley Bank, points to some key issues that will be under the agency’s scrutiny.
Those named in the suit run the gamut from SVB’s former CEO and directors to the former chief risk officer and the former CFO.
Central to the suit, and among the FDIC’s allegations: “Egregious mismanagement” of risk, in particular interest rate and liquidity risks. As a result, the SVB was taken over and closed by a California state financial regulator in March 2023 after customer withdrawals and plummeting stock prices beset the bank amid investor concerns about its liquidity. At the time, PYMNTS observed that social media, the digital-first nature of the banking model and FinTech clients converged to bring bank runs into the 21st century.
Suit Had Been Foreshadowed
Last week’s suit had been foreshadowed, as reported here last month, when the FDIC’s board of directors reportedly voted unanimously to authorize potential legal action against those former SVB executives.
Then, as now, the FDIC has contended that the former directors and officers of the bank mismanaged its held-to-maturity securities portfolio by purchasing long-dated securities when interest rates were rising. The result here was an over-concentration of these assets. The FDIC has also charged that the corporate officers had mismanaged the bank’s available-for-sale securities portfolio by removing interest rate hedges.
Digging into the suit, which had been filed in the U.S. District Court for the Northern District of California, the FDIC noted that the SVB grew at a pace that far outstripped the overall industry, as the industry grew 24% from the period measured from the year end of 2019 to the end of 2022.
Per the suit:
“By year-end 2022, venture-capital-backed companies in these sectors accounted for more than half of SVB’s deposits, linking SVB’s deposits and deposit growth directly to venture-capital-deal activity and liquidity events associated with those deals,” the FDIC observed. “The vast majority of SVB’s deposits also were uninsured because they exceeded the $250,000 threshold for FDIC deposit insurance. As of year-end 2022, SVBFG’s and SVB’s regulatory filings reflected that approximately 94% of SVB’s deposits were uninsured.”
Growth Outpaced Risk Control and Oversight
Those deposits wound up being “inherently less stable,” and “the newness of these deposits, their concentration in specific industry sectors having highly variable liquidity profiles, their uninsured status, and other characteristics all reduced the ‘stickiness’ of these deposits, leaving SVB particularly vulnerable to the risk of deposit withdrawals in the event of an increase in interest rates or loss of market confidence in SVB,” the suit said.
Within that aforementioned timeframe, the Federal Reserve and state regulators had identified concerns with the deposit concentration — and pointed out that risk management had been “outpaced” by asset growth. Deficiencies were noted in liquidity risk management and stress testing, with a “lack of effective board oversight” and lack of “formal frameworks” that would have helped govern that risk.
Later in the filing, the FDIC alleged that “instead of taking corrective action to remedy this risky overconcentration, address the policy and risk-metric breaches, or otherwise reduce SVB’s interest-rate risk, the Officer Defendants modified the assumptions underlying one of SVB’s risk models — without legitimate basis — to try to make it appear as if SVB was not in breach” of its own policies.
