Failure of SVB and exiting false equilibrium

Failure of SVB Financial is a consequence of “something much bigger” and might mean the start of a broader cycle of delinquency, default and bankruptcy, with zombie companies to follow, according to investment manager Ninety One.

The firm’s portfolio manager, Iain Cunningham, called the collapse of SVB a consequence of exiting false equilibrium, described as the decade and a half of excessively easy money, through near zero or negative interest rates and quantitative easing (QE).

“A false equilibrium is a theoretically unstable or unsustainable situation that has been so long lived that it appears to be a true equilibrium,” he said.

“Over the past 12 months, we have been rapidly exiting from a false equilibrium that began to form in the years after developed world economies emerged from the Global Financial Crisis (GFC).

“Policy makers have, for some time, set policy far too loose relative to prevailing economic fundamentals, evidenced by the material appreciation in asset prices over the period. Policy makers have been willing to “pivot” or add stimulus at any sign of a wobble, seeking to minimise economic and market volatility.”

Cunningham also said that such action increased confidence and deeply embedded this false equilibrium in the decision-making processes of many households, corporations and even governments.

“By their nature, false equilibria cannot last forever. The doubling down of easy money during and post the pandemic ultimately created inflation, which broke the condition required to maintain the false equilibrium,” he warned.

According to him, the most speculative “investments” of the prior cycle already came under substantial pressure, whether it was crypto currencies, NTFs, SPACs or unprofitable technology companies.

“We are now beginning to see early signs of businesses that built their operating models around the false equilibrium begin to struggle, such as SVB Financial. Beyond this, we see material imbalance in household leverage and housing markets in several countries around the world beginning to consolidate. We also see evidence of zombie companies,” he said.

On top of that, the rising cost of money and slowing growth would begin to place more pressure on cash flows.

“The false equilibrium of the past decade has created obvious imbalance and excess, and inflation has clearly broken the condition required to maintain it. The failure of SVB is a consequence of something much bigger and is likely to be the beginning of a broader delinquency, default and bankruptcy cycle rather than the end,” Cunningham concluded.