Bankers have to contend with two big challenges. The first is credit risk. If the economy slides into a recession, borrowers may not be able to make payments on their loans. The second is interest rate risk. Rates can turn against banks in a lot of different ways. For one thing, short-term rates can rise more than long-term rates do, reducing the income that’s generated from the difference between what a bank pays for deposits and what it earns from its loans. For another, as rates rise, the value of debt securities the bank had purchased at lower rates falls.
Usually, it’s the first challenge that gets banks into trouble. That’s what happened to them in 2008 as real estate collapsed. But now-infamous Silicon Valley Bank ran afoul of the second challenge. SVB was an unusual institution that held considerably more debt securities, such as government bonds, than it did loans ($120 billion worth of securities but just $74 billion in loans). The bank was also too focused on a single sector — technology companies and the venture capitalists that supported them — and it had vast amounts of demand deposits ($110 billion), which didn’t require SVB to pay interest but could be pulled out instantly using an iPhone.
