Markets remain quite chaotic after the events of the past week lingering in the air.  As more information has come out, the more obvious the problem becomes.  You had 3 idiosyncratic banks that had grown deposits like crazy based on the backs of crypto and venture capital money flowing in.  These New Age banks, invested many of these deposits into Treasuries and Mortgage Backed securities when rates were exceptionally low, think 1.5% 10-year Treasuries.  Even worse, they did this for longer duration assets, despite the fact that their deposits were much more fly by night money than more traditional deposit bases.  For Silicon Valley Bank, the deposits were mostly uninsured and from venture capital funds and their portfolio companies.  All of the sudden these VC funds and the companies that they virtually own and help manage started communicating amongst each other that their preferred bank was in trouble and they should pull their assets.  They did just that starting a traditional bank run and because of the ridiculous risk management of Silicon Valley Bank, the FDIC ended up taking them over.  This type of coordination is very unique and I’d be very curious to know who profited from that collapse, as I wouldn’t just assume it was all done in good faith.  A more liquid bank portfolio like we see with the vast majority of banks would have held up far better, and likely would have prevented such a run from occurring, but the confluence of storms did Silicon Valley Bank in.

Banks have virtually double the capital and liquidity that they had prior the Financial Crisis.  They are dramatically safer and more conservative in their underwriting.  Of course, some banks, just like every other industry, will experience failure due to bad management.  We have never owned either of the three banks that failed exactly because of their aggressive risk profile, and that made us look stupid at times as the stocks performed well, until they didn’t and ultimately got wiped out.

When volatility spikes, our sold options increase in value causing short-term mark to market losses, but ultimately at expiration, both time and volatility value go to zero.  The only thing that matters is where the stock is relative to our strike prices.  Even at current stock prices after the crazy past week (one of the craziest I’ve seen which says a lot), we would see a very big bounce in our portfolios, and I fully expect a full recovery as the value is there.  A big reason we sell puts out of the money is to build that protection, which insulated us so much last year, and should do the same as we face future challenges like the current turmoil. For new positions, we obtain higher premiums and even better margins of safety, so ultimately volatility is good for what we do.  I had a podcast today with Tobias Carlisle and Jake Taylor where we discussed the drama at Silicon Valley Bank and several other issues.  I hope that you enjoy!

 

Value After Hours Podcast