What happened with the U.S. Banks?

On March 10, 2023, Silicon Valley Bank (SVB) failed after a bank run, causing the largest bank failure in the U.S since the 2008 Financial Crisis and the second-largest in U.S history. SVB was an institution that specialized in providing banking and financial services to the technology and life sciences industries as well as private equity and venture capital firms. After the SVB collapse, Signature Bank, a New York based financial institution with deep ties to the cryptocurrency industry collapsed on March 12, 2023 after depositors made a run on the bank. On March 13, 2023, San Francisco-based First Republic Bank experienced sharp stock losses due to fears of bank contagion before national regulators took emergency measures and First Republic Bank secured additional financing through J.P Morgan and the U.S Federal Reserve.

Why did this happen?

Problems in the U.S. banking sector occurred due to the sharp increase in interest rates over the last 18 months. Banks hold a fraction of their assets in bonds and the value of those bonds fell substantially as interest rates increased. Specifically, mid-sized U.S. banks don’t have to mark their bond holdings to the markets unless they are selling the bonds. Banks normally hold these bonds to maturity, whereby the bond value reverts to par – thus, the hit to their capital base was concealed and largely theoretical. The SVB clients were skewed to the tech sector and as the tech sector cooled over the past year, venture capital funding dried up so many of these businesses withdrew their bank deposits to fund their businesses, which forced the bank to start selling its bonds, resulting in the banks having to crystallize some of the bond portfolio’s losses.

Bank customers were concerned and due to the tight-knit nature of the tech community, news travelled fast. The majority of the bank’s clients had large deposits that exceeded the $250,000 deposit insurance limit, which theoretically made their money vulnerable to a bank failure and tech savvy clients were able to shift their funds very efficiently with the click of a button. The outflows were large and the realized bond losses then rendered the bank insolvent so the Federal Deposit Insurance Corporation (FDIC) had to take over the bank.

Signature Bank had a similar situation as SVB with a small number of high-value clients, a connection to the tech sector and cryptocurrencies and the bank assets held a lot of bonds. Even though the problems at Signature weren’t as bad as SVB, its failure stirred up enough anxiety for Signature Bank to suffer the same fate as SVB.

What does this mean for the other U.S. banks?

Most banks are less vulnerable than SVB and Signature Bank as their client base is more diverse where they don’t all struggle and take out their money at once. Also, most banks don’t hold such a large fraction of their assets in loss-making bonds. Most banks did not grow as quickly as SVB, meaning they did not acquire a large fraction of their bond portfolio at the peak of the bond market. More importantly, most large banks run less aggressively with a much higher capital ratio. Even though there is some vulnerability, it is less likely that other medium or large sized banks will go through what SVB and Signature experienced. The U.S. government also stepped in to assist to prevent further bank runs. They created a Bank Term Lending Facility at the Federal Reserve allowing U.S. banks to swap their bond holdings at face value for a cash loan for up to a year. Key point here is that the bonds would be swapped at their face value, not market value.

As a result of these recent events, regional U.S. banks will come under a lot more government scrutiny and be subjected to more stringent regulations.

What about Canadian banks?

The situation for Canadian banks is different. Rising interest rates also impose losses on Canadian bank bond portfolios and the high household leverage and weak housing market represent challenges that are of even greater consequence to Canadian banks than American ones but these specific issues are not new and are already well understood. As per 2008, Canadian banks have a history of stability even when U.S. banks experience distress.

Specifically:

• It has larger, more concentrated, more diversified and better capitalized banks relative to the U.S.
• Historically, the Canadian deposit base has also been stickier than in the U.S. This reduces the likelihood of bank runs.
• Canadian banks also enjoy a single national regulator, whereas the U.S. system operates under the purview of a patchwork of state regulators with varying degrees of stringency.
• Canadian banks have a history of stability even when U.S. banks encounter distress, as per 2008.

In the context of current stresses, Canadian banks place a smaller fraction of their assets into long-dated bonds. They mark those bonds to market such that there are no hidden losses off balance sheet. A significant fraction of the bond portfolio is hedged, such that the resulting losses from rising interest rates are manageable.

What about Credit Suisse?

The main reason for its problems is the long-term mismanagement of the bank as ever since the global financial crisis, Credit Suisse has underperformed its peers. As a result, Swiss regulators guided the Credit Suisse into the hands of UBS. With banking generally being a profitable industry, yet Credit Suisse was projected to suffer losses over the next several years even before SVB failed, the markets decided that the bank was not a viable entity. With UBS having taken over Credit Suisse, they are now well capitalized and have enough liquidity to avoid trouble in the short-term.

During volatile times like today, we remind clients to stay the course, avoid overreacting to near-term news, and to take advantage of attractive buying opportunities in the long term.

Please reach out if you’d like to learn more about how we keep your portfolios resilient during volatile times.

Sources: Canada Life Investment Management, RBC Global Asset Management and Mackenzie Investments

First Home Savings Account (FHSA)

The tax-free First Home Savings Account provides prospective first time home buyer’s the ability to save up to $40,000 over a 5 year period. Contributions towards the FHSA are tax deductible (like a RRSP) but are tax-free upon withdrawal to purchase a home (like TFSA). The rules around who is eligible for a FHSA is that you must be considered a first time home buyer not having lived in a qualifying home as a principal residence that one owned or owned by spouse or common-law partner.

Ideas on how to best use the FHSA:

1) Immediate home purchase – unlike the RRSP, where deposits have to remain in the account for 90 days prior to withdrawal, FHSAs do not have that requirement. You can withdraw immediately upon deposit

2) Using both the FHSA and RRSP First Time Home Buyer’s Withdrawal – check out this link for an example of how to use the FHSA, TFSA and RRSP to save for a down payment.

3) Gift to family members – even though you may already be a home owner, you can set up an account for your children / grandchildren (over 18 years old), you can gift $8000 each year for 5 years and the recipients can hold onto the tax deduction for a year where they are in a higher tax bracket

When does one need to close their FHSA?

• The 15th anniversary of opening y our first FHSA, or
• you turn 71 years of age, or
• the year following your first qualifying withdrawal from your FHSA

If you still have an excess balance by the time you need to close your FHSA – a sheltered transfer can be done to move into your RRSP or RRIF without requiring additional RRSP contribution room.

Source: advocis.ca; canada.ca 

Federal Budget 2023 Highlights

Measures for individuals

• Alternative minimum tax (AMT) rules expanded to apply to more high-income earners.
• Qualifying family members measure for RDSPs will be extended by three years to 2026, and expanded to include siblings 18 and older.
• The maximum educational assistance payment (EAP) withdrawal for the first 13 weeks of enrollment increased to $8,000 (full-time students) and $4,000 (part-time students).
• A new grocery rebate will be available by increasing the maximum Good and Service Tax Credit (GSTC).
• Employee ownership trusts (EOT) will be available to facilitate business succession between business owners and employees starting January 2024.
• Retirement compensation arrangements will not be subject to 50% refundable tax on fees or premiums paid for securing or renewing a letter of credit.
• Deduction for tradespeople’s tools doubled from $500 to $1,000, effective 2023.

Measures for corporations

• Bill C-208 refined with additional safeguards for genuine intergenerational business transfer from parents to children.
• Several tax credits and other incentives introduced for businesses producing and manufacturing clean energy.
• Public corporations subject to a new 2% tax on equity issuance and repurchases.
• Proposal of several amendments to GAAR (General Anti-avoidance Rule).

Other notable measures

• Inflation adjustment on the excise tax for beer, spirits and wine temporarily capped at 2% for this year.
• Canada Student Grants (CSG) will increase by 40%.
• Government to lower credit card fees for small business.

Here are other items worth noting.

Source: Mackenzie Investments and Budget.canada.ca

DLD Spring Break Highlights

We took some time out of the office during spring break. Dave and his family were in Hawaii , Kelly and her family spent time in Las Vegas and Ryan and his wife Taylor were busy preparing to become parents next month!

Please do not hesitate to contact us if you have any questions or if there’s anything we can do to help.

Thank you for your time.
Dave, Kelly and Ryan

E&OE