Banking-sector volatility calls for perspective

Recent financial market volatility has been widely attributed to a pair of bank closures in the US, which were followed by a spillover into the global banking sector as the shares of Switzerland-based Credit Suisse Group AG sharply sold off. The events have led to speculation that the US Federal Reserve (Fed) may respond in part by easing its campaign to tighten monetary policy.

At Vanguard, we continue to encourage investors to avoid speculation and trading on emotion, and to focus instead on the long term and factors within their control.

Here we provide background on recent events, explain what happens when a security drops from an index and summarise our approach to risk management.

Driven by strong deposit growth, Silicon Valley Bank doubled in size in 2021 and primarily invested those deposits in longer-duration US Treasuries and mortgage-backed securities. As interest rates climbed, the securities fell in value, and the bank was forced to sell some at lower prices amid customer withdrawals.

Loss-making investment sales triggered more withdrawals by clients of the bank, which catered to technology start-ups and venture-capital firms. Silicon Valley Bank announced sizable losses on 8 March, and its shares subsequently declined rapidly. On 10 March, regulators halted trading in shares of SVB Financial Group, the bank’s parent company, and closed the bank to protect depositors.

On 12 March, New York-based Signature Bank was also shut down by regulators and placed into receivership by the Federal Deposit Insurance Corporation (FDIC). The FDIC has approval to complete its resolution of Silicon Valley Bank and Signature Bank in a manner that fully protects all depositors, both insured and uninsured.

On 15 March, concerns spread to Europe, prompting the sharp sell-off in the shares of Credit Suisse Group AG, indicating that markets remain wary about further banking-sector developments. Although Credit Suisse’s challenges—which have been public for more than a year—appear unrelated to those of Silicon Valley Bank and Signature Bank, the sell-off highlights the potential for near-term risks in the banking sector.

Exposure of Vanguard funds

On behalf of its investors, certain Vanguard funds owned securities issued by both of the shuttered US banks. As at 31 January 2023, the aggregate exposure to SVB Financial Group in Ireland-domiciled Vanguard funds was 0.02% of all such funds’ assets. As at 31 January 2023, the aggregate exposure to Signature Bank in Ireland-domiciled Vanguard funds was 0.01% of all such funds’ assets.

Certain Vanguard funds also own securities issued by Credit Suisse on behalf of Vanguard’s investors. As at 31 January 2023, the aggregate exposure to Credit Suisse Group AG in Ireland-domiciled Vanguard funds was 0.08% of all such funds’ assets.

Indices, index funds and the shuttered banks

Index providers such as S&P Dow Jones, FTSE, MSCI and Bloomberg determine the securities in each index or benchmark. S&P, for example, announced the deletion of SVB Financial Group from its indices effective at the close of trading on 14 March.

Index funds and exchange-traded funds (ETFs) seek to track their benchmarks by replicating the risk and/or exposures of those benchmarks in their portfolios. As a result, Vanguard index funds own many securities in line with their benchmark weights. Equity and fixed income index inclusion criteria differ by provider, but once a security no longer meets those criteria, it will fall out of the provider’s index. Securities removed from indices are then removed from Vanguard index funds.

A temporary shock

Despite market concerns, we believe that the prospects for contagion in the banking sector are limited and that recent events represent a temporary shock. Recent banking sector events don’t change our economic and market outlooks, and we continue to believe that bringing inflation back to acceptable levels remains the most important factor for major central banks.

How Vanguard manages investment risk

All Vanguard funds, whether managed by Vanguard’s internal investment teams or by one of our external advisory firms, are subject to rigorous risk oversight and analysis. Each fund has documented investment objectives and strategies, a benchmark against which its composition and performance are assessed and documentation of permitted instruments and risk limits.

Our risk-management efforts do not preclude losses—investing inherently entails the risk of loss—but they are central to our investment process. Our seasoned risk managers:

• apply independent judgment and expertise to help our investment teams assess and mitigate risk;
• ensure risk and return transparency by monitoring and analysing investment management activities and reporting on Vanguard funds; and 
• participate in research that continuously improves our understanding of risk and expected return. 

Importantly, our risk managers operate independently from our investment managers and analysts, reporting directly to our chief risk officer.

What investors can and should do

Unexpected and fast-moving economic or financial market news can be disquieting. In most cases, however, Vanguard believes that investors benefit in the long run by sticking with well-considered financial plans and portfolios.

In particular, we believe investors should focus on: 

• aligning their asset allocations with their risk tolerance;
• controlling costs;
• adopting realistic expectations;
• holding broadly diversified funds; and
• maintaining discipline.

In general, investors should change their portfolios only when there are meaningful shifts in their investment horizons, goals or financial circumstances, and not in response to short-term market conditions or performance. 

• Vanguard is committed to prudently stewarding client assets. Fund portfolio managers will make adjustments within our index and active funds, as necessary and in pursuit of our investors’ long-term interests.
• Risk management is central to investment management. Whether managed by our internal investment teams or external advisory firms, all Vanguard funds are subject to rigorous risk oversight and analysis.
• Investors should take a long-term view. As explained in Vanguard's principles for investing success, investors are well-served by a long-term outlook, perspective and discipline.