13 Mar SVB, ESG, and JKG
Everyone, it seems, has an explanation for why Silicon Valley Bank (SVB) collapsed. And that’s fair, for the most part, because there were a significant number of things wrong at SVB.
One of the more interesting explanations is that SVB’s failure was the result of its extensive dabbling in ESG. For example, GOP Congressman James Comer, the chairman of the House oversight Committee, complained loudly that SVB was the result of “woke” banking practices:
GOP Rep. James Comer, the chairman of the House Oversight Committee, slammed Silicon Valley Bank, or SVB, as “one of the most woke banks” in the US.
“We see now coming out they were one of the most woke banks in their quest for the ESG-type policy and investing,” Comer said, referring to environmental, social, and governance policies.
“This could be a trend and there are consequences for bad Democrat policy,” the Kentucky congressman continued on Sunday’s episode of Fox News’ “Sunday Morning Futures.”
Now, you know us. We’re certain that ESG and “woke capital” are the causes of all of the evil in the world. Lucifer’s sin was that he deemed himself equal to God AND he compromised shareholder returns to advance his personal political predilections. We’re pretty sure the Bible is clear on that – or at least our copy is.
Nevertheless, we think that the good Congressman (and countless others like him) are exaggerating the impact of woke capital just a bit – even as they, paradoxically, underestimate the broader risk to the financial system. On the matter of ESG, we think that Matt Cole, the Chief Investment Officer and Global Head of Fixed Income at Strive Asset Management, hits far closer to the mark than did Chairman Comer:
The SVB failure had about as much to do with ESG/Stakeholder Capitalism as ESG/Stakeholder Capitalism has to do with making money – nothing….SVB was caught up in the ESG game, but were about average with respect to the banking sector as a whole based on ESG ratings. The too big to fail banks are all significantly worse with respects to ESG.
To be clear, Matt is talking about direct links between ESG and SVB’s collapse. Did SVB’s ESG-related lending cause its collapse? No. Did its in-house ESG practices and obsessions cause it to make mistakes that enabled the conditions leading it to its collapse? Again, no. There is no DIRECT link between the SVB debacle and ESG. And to insist that such a direct link exists, even if it can’t be identified, serves only to undermine the broader criticism of ESG, to dilute an extremely important message and effort. Chairman Comer and his ilk should either tread more lightly or supply evidence for their claims.
All of that said, we want to be clear about this as well: it’s not necessary to let ESG of the hook entirely in the SVB case. There is a nuanced argument to be made that ESG played a supporting role in setting the stage for this bank-run. (And speaking of supporting roles, Congratulations, Short Round!)
The majority view in the financial world seems to be that SVB is a victim of the Fed. Powell et. al raised rates too quickly, and banks like SVB, with their unique lending profiles, couldn’t keep up, leading, eventually, to what we saw over the last couple of weeks.
We agree that the Fed bears much of the blame, but NOT for raising rates too quickly. Rather, the Fed’s culpability lies in keeping rates at near zero for more than a dozen years, enabling the creation of one helluva bezzle:
In good times people are relaxed, trusting, and money is plentiful. But even though money is plentiful, there are always many people who need more. Under these circumstances the rate of embezzlement grows, the rate of discovery falls off, and the bezzle [described as “the inventory of undiscovered embezzlement”] increases rapidly. In depression, all this is reversed. Money is watched with a narrow, suspicious eye. The man who handles it is assumed to be dishonest until he proves himself otherwise. Audits are penetrating and meticulous. Commercial morality is enormously improved. The bezzle shrinks. Good times, when money flows freely and is invested eagerly, tend to foster corruption. Hard times, by contrast, when money is tight and invested only reluctantly and carefully, tend to provide the antidote for corruption and to force the crooks into more honest pursuits.
Now, we’re not saying that all the nice folks at Silicon Valley Bank are or were crooks. We would never even dream of saying such a thing. What we ARE saying, however, is that they were reckless, careless, and possibly corrupt over the last dozen years or so. And they were they were reckless, careless, and possibly corrupt because they could be, because the Fed and its practically free money enabled them to be.
Nearly everyone agrees that SVB had terrible risk management in building its investment profile. It’s executives also made the conscious choice not to hedge their interest rate risk. And they also made the conscious choice to hide this risk as best they could. They played fast and loose both with money and with the rules. And they got caught.
It’s true that the executives at Silicon Valley also threw away a nice chunk of change dabbling in ESG-related nonsense. As presidential candidate Vivek Ramaswamy, Matt Cole’s former colleague at Strive, noted over the weekend, the SVB’s 2022 ESG report contained the following list of “cross-function working groups”:
– Sustainable Finance Group: Develops strategy and monitors progress against SVB’s Climate Commitment
– Investments Group: Reviews updates from our businesses on sustainability and investing-related initiatives and client engagement
– Climate Risk Group: Recommends, monitors and supports implementation of climate risks
– Operational Climate Group: Monitors implementation of operational greenhouse gas reduction initiatives
– ESG Communications and Disclosures Group: Recommends ESG disclosure strategy
– Risk Group: Develops, monitors and supports implementation of ESG risk strategy and policy
– DEI Governance Group: Oversees and manages DEI disclosures and response to external inquiries
– Green Team: Focuses on internal sustainability interests and activities
Again, NONE of this caused SVB to fail. But ALL of it contributed to the culture of corruption at the bank. All of it is part of the problem. As we warned in these pages just a few weeks ago:
ESG, is what you might call a first-world problem. It is an indulgence, in other words, something that occurs on a mass scale only when times are good and money is plentiful for such extraneous, non-functional business expenditures. Second – and clearly related – this is, in our estimation, a contemporary manifestation of John Kenneth Galbraith’s concept of “the bezzle.”…
The Fed is not our friend. It is not your friend. It is the source of more than a decade’s worth of profound corruption and misallocation of capital – INCUDING THE MISALLOCATION OF CAPITAL TO DEI AND ESG.
The old adage has it that investors should not fight the Fed. While this may be true, it is equally imperative that they (that is to say you!) should keep their eye on it. Its goals are not necessarily their/your goals. And its means are not necessarily sound.
The Fed created this problem, alright, but not by raising rates. The Fed’s damage was done long before it realized that inflation wasn’t “transitory.” And stopping rate increases now – that is to say, going back to the policies that created the bezzle in the first place – is not going to fix the problem. In the long run, it will only make things worse.
We have a sneaking suspicion that the main lesson to be learned from Silicon Valley Bank is that the bezzle is far bigger and far more dangerous than anyone – ourselves included – thought.
ESG was not the cause of SVB’s failure. But it was – and IS – a symptom of the broader sickness. Let’s hope the government can help contain this pandemic better than it did the last one.