Hedging securities and Silicon Valley Bank idiosyncrasies

Abstract

Hedging requires adequacy and timing. This paper finds that banks did not systematically ignore balance-sheet risks like Silicon Valley Bank (SVB), and instead exercised risk management by asymmetrically increasing hedging activity when security losses increase and scaling back hedging activity as security losses reverse. Banks also hedge against bank runs when risk increases due to a combination of security losses and funding risks from unsecured deposits. Findings suggest SVB's mistakes are idiosyncratic. Results suggest that nonstress test banks target balance-sheet risks when hedging, stabilizing themselves from interest rate shocks transmitted through fixed-income securities. Scrutiny of rules-based outliers like SVB is preferable to increased regulatory burden for all nonstress test banks.