Is the global Financial System collapsing - SVB to Credit Suisse the Domino effect to reach Indian Banking System?

If only!

The greatest of all regrets, is not being able to see what was unfolding right under our nose, until its too late to do anything about it. Well, that’s what it felt like, following the news of some of the top banks floundering from all over the globe. Starting with SilverGate, SVB and Signature in US, the bail out of First Republic by a consortium of big Wall Street banks, to the contagion spreading over to a legacy Monolith like Credit Suisse.

Meanwhile, Bitcoin HODLers are having their “I-Told-You-So” moment.

The echoes of this Domino could be felt on Dalal Street as well, with Banking Stocks taking quite a beating.

And this was just in the aftermath of SVB. Add to it, the prospective domino that Credit Suisse could have on other major foreign banks, the fear is, will this also spread to the Indian Banks ?

That is exactly what I intend to dive into in this edition of The Fintech Chronicler. If you stumbled upon this by chance, and you happen to enjoy the world of Fintech, Crypto, Finance and everything in between, then do stay. Because every Monday, we discuss the latest happenings, and peel away the layers to understand the intricate details most people miss out on. And if you tend to run away at the first utterance of any thing technical, then I do hope my jargon free newsletter helps you decode the world of fintech.

So do read along, and if you like it, stay, by subscribing for more .

Lets get started.

SVB, SilverGate, Signature and First Republic

I know, what all of you regulars are thinking. Havent we spoken enough about them the few weeks? Yes, I agree. But a small run through /?recap never hurts. (you can read them here and here if you missed it)

In the era of free money, when Fed interest rates were 0, and the US government was busy printing money to help the economy face COVID-19, VCs and startups were having?field day. Any startup which was digital, or dealt with technology of any sort, saw massive rounds of funding. Often times, VCs would approach Founders, with a cheque, instead of the other way around.

Where did VCs get this money from? Well, their lenders were friendly little Regional Banks, like SVB and First Republic. And because these banks were so amicable, where would VCs insist founders park their money in? You guessed it. With the likes of SVB.

A similar story was also playing out for Crypto startups. Where banks like Signature and SilverGate were building ramps to help people convert Fiat to crypto and vice versa, irrespective of whether they wanted that transaction to happen outside of regular banking hours. And in 2020 through 2021, given the bull run crypto had, everyone wanted a piece of pie.

Meaning all these banks were awash with a lot of customer deposits. Now, regional banks had to park a portion of these in “Secure” assets in case depositors ased for their money back. Only Fed wasn’t giving anything in return. So, to gain some extra, they bought long term bonds and mortgage backed securities, which when they mature over a period of time would give the banks a healthy return.

Come 2022, the Fed gives a double whammy. Not only do they stop printing and distributing free money, they also start rapidly increasing rates. All the way from 0 to 5%.

Depositors quickly realise, their friendly old Regional Banks aren’t giving them returns on their deposits, and insist on withdrawing away the money.

Banks for their turns are stuck with “assets” which if they sell now would result in a HUGE loss for them. News of this triggers panic, with VCs adding to the mix, advising startups to withdraw, if they hold funds in regional banks.

The situation gets so dire, that the President of the United States, Joe Biden, needs to intervene assuaging the depositors that they would be made whole.

But the trouble with people in power saying “Do Not Panic” is that it leads to more Panic.

For a more detailed narrative , as well as my hot take theory, you can head over to the previous edition . And if you want to learn more about the impact of Interest Rate Risks, this would be of interest to you . ?

The scare that SVB gave to depositros, saw roughly $42 billion move from small regional banks to Big players like JP Morgan .

The market value of American banks has dropped by 17%, or $229 billion, so far this month. As a result of the decline in Treasury yields, market participants now anticipate that the Federal Reserve will start reducing interest rates sometime during the summer. The value of bank stocks in Europe and Japan has also fallen precipitously.

However, given the Jobs data that came out on Monday last week, and the inflation trends, which are still way above the Fed’s 2% comfort levels, it is highly unlikely that Jerome Powell, would reduce rates. (If anything I believe in this FOMC meeting we'd see 0.25% rise in rate, not a cut).

Moving on.

The Unraveling of Credit Suisse

Across the Atlantic, a more serious problem was brewing. And this time, it was not a litany of small regional banks who were in trouble. It was one of the Goliaths, Credit Suisse.

Before we get to Credit Suisse’s $8 Billion losses, and the significant play they have in the Indian Derivatives market, here is a run through of the Bank’s past glories.

A chapter of Credit Suisse’s 200 year old History

It would not be possible for me to do justice to Credit Suisse’s 200 year old history. So I thought I’d cover a chapter of it, that starts with their unscathed emergence from the Great Financial Crisis.

Unlike UBS, which needed to be bailed out by the Government, in the aftermath of the Great Financial Crisis, Credit Suisse was well positioned to sort the mess and stand up for themselves in 2008

In 2012, the company had absorbed Clariden Leu and consolidated its private banking and asset management operations into a single department.

In 2013, they acquired the wealth management operations of Morgan Stanley in EMEA and AFR.

In 2015, under CEO Tidjane Thiam's leadership, the organisation restructured into three wealth management units and two investment banking departments.

In 2020, Thiam resigns in February after a crisis involving the bank's secret surveillance ?programmes comes out in the open. In March, Credit Suisse loses $5.5 billion due to the collapse of U.S. investment fund Archegos in March. In the same month, it was forced to freeze $10 billion in supply chain finance funds that were advertised to clients as low-risk products but were actually tied to the now insolvent British lender Greensill Capital.

Less than 9 months of serving as the chair in 2021, Antonio Horta-Osorio resigns after breaking COVID-19 quarantine regulations, and Alex Lehmann is appointed in his stead.

In October of 2022 the bank announces its pirouette back to being the bank for the super wealthy, raises ?$4 billion ?in capital, plans to eliminate 9,000 jobs by the end of 2025, and announces the formation of CS First Boston. This enamours The Saudi National Bank and they increase their holding to as much as 9.9 percent by purchasing additional shares.

Come March 2023, their annual report highlights issues of internal controls over financial reporting at Credit Suisse having "significant shortcomings". Shares plunge as much as 30%, with their ardent supported the Saudi National Bank, announcing it would not provide additional support citing regulatory limits.

Losses, plummeting Bonds and Stock Value, Credit Suisse for Sale

The Swiss bank reported a loss of $8 billion in 2022, sending its stock price tumbling 30% and its bonds collapsing, prompting comparisons to the 2008 Lehman Brothers bankruptcy from industry watchers.

The Saudi National Bank's head told reporters on the sidelines of a conference in Saudi Arabia that the bank had no plans to raise its investment in Credit Suisse.

A loss of S8 billion was reported in Credit Suisse's annual report, which was made public on Tuesday morning. Upon the SEC's request, Credit Suisse postponed the report's release until last Thursday so that it could review its books. The stock of the bank fell by 5 percent, hitting a record low.

Credit Suisse is having trouble due in large part to its involvement with Greensill Capital, a UK-based financial services company that declared bankruptcy in March 2021. Credit Suisse, along with other significant investors, lost billions of dollars when Greensill Capital went bankrupt.

Credit Suisse is also being hampered by its role in the demise of Archegos Capital, a family business that made risky stock investments using excessive leverage. Archegos failed to meet its margin requirements after its investments went south, costing Credit Suisse and other financial institutions a fortune.

Credit Suisse, which was a major lender to Archegos, suffered a loss of over $54.7 billion as a result of the company's failure.

Then there was the US lawsuit that Credit Suisse settled to repair its reputation for facilitating funds to Iran, adding to their woes. And like I’ve said before. Banks are in the business of Trust. Once that trust erodes, hard for you to do business.

Even though Credit Suisse does have a Common Equity Teir1 ration of 12.9% per their last year’s annual report, which according to the Basel III norms are in the pink of health. The CET1 ratio evaluates a bank's resilience by contrasting its capital with its risk-weighted assets. A bank's core capital consists of its equity capital and its reported reserves, which might include things like retained earnings.

However, since they are a global bank of systemic importance, the Swiss Central Bank was swift in their actions (see what I did there ? :P) and granted them a $54 Billion credit line, to infuse liquidity. They also started brokering a deal with interests coming in from BlackRock, UBS and other competitors. (BlackRock has since withdrawn from the race).

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Indian Banking Sector: Are we resilient?

But the real question is, how will this Domino of falling banks impact the Indian Banking sector?

Lets answer it for SVB and Signature first. SVB, through their VC partners, had stakes in 21 Indian Startups . And since these deals typically meant startups opening their checking account with SVB, we can assume that at least half of their funding would have been with SVB. So around $3Billion? That is roughly 0.1% of the $3.5 trillion economy that India is. India’s employment rate is currently around 45%. That means around 0.62 Billion people. These startups (including Paytm, which SVB exited a long while back according to VSS)?have around 20k employees.

I am not sure I see the risk there of any run on a bank. Or maybe I am looking at the wrong picture? Because people all around seem scared of the contagion from SVB.

But lets take a look at Credit Suisse. Now, admittedly they have only 8.5% the book size of the biggest foreign bank, JP Morgan , in the country, one would assume that there isn’t going to be a risk. Worst case, one of the Big bank, either Indian or Foreign, could easily absorb them. Right?

The risk comes from the counterparty exposure in the Derivatives market!

Now India has for the fourth year, been the largest Global derivative market , with an average daily turnover of ?470 crores, and a secondary market of ?7 crore per day growing rapidly YoY 59%.

Credit Suisse actively participates in this growing market and uses borrowings to finance 60% of its assets, of which 96% has a duration of up to two months. So in the short term, there would be significant counterparty risk, if Credit Suisse and UBS do not strike a deal. (at the time of publishing this, UBS offered to buy Credit Suisse for $1Billion, marking a 87% drop in Credit Suisse’s valuation since the last closing bell).

Breaking News ! Credit Suisse writes down $17bn loans.         

Already foreign banks Like BNP have sent out a message to their customers, that they would not be honouring Credit Default Swaps where the counterparty involved banks at Credit Suisse. However, even if all the derivatives of Credit Suisse in the Indian Market bleeds Indian Banks are well poised to absorb that loss.

I did the math, it comes out somewhere about ?21 crore over the next 2 months. And markets have kind of baked that in, with the recent fall in Bank Nifty.

However, there is one sector which could face a significant brunt. The Indian IT Sector.

Most of our IT captives, have huge business relationships with the likes of JP Morgan, Citi and many such big names. And the ripple effects that banks have on the broader economy are well documented, thanks to the Great Financial Crisis. We saw how digitization took a back seat in 2008, which could potentially mean job cuts in the IT sector. And thanks to COVID19, already a lot of techies have either had to come back, or scramble and take up odd jobs to prevent being sent back home in the US.

For now, all we can do is wait and watch out for 22nd of March, when the Fed comes out with their next rate hike. Although most people believe that there won’t be a hike this time round, I have a different opinion. I think, the Fed has already done enough, by guaranteeing that long term bonds would be bought back at face value. They have also arranged for several not-bailouts to happen to small banks. And most importantly, the inflation levels are well above their comfort levels. They may not push for an aggressive 50 basis point increase, but somewhere between 10 to 25 basis could be expected.

Which only means, things are going to get more difficult for the tech sector back at home in India.

With that said, I’d like to end this edition of the newsletter by offering up my time to those of you who have been recently laid off. If you are looking for a resume revamp or a linkedin profile upgrade, head over to my profile and book a free one-on-one 30 minutes call.

And I shall see you next edition, where hopefully I will have more gleeful news to share from the world of Fintech.