Why This Niche Bank Is One of Our Favorites

By Markets Fool.com

Silicon Valley Bank (NASDAQ: SIVB) isn't your ordinary bank. Instead of focusing broadly on people who need checking accounts and loans, it specializes in the technology industry, acting as the banker to start-up companies as well as to entrepreneurs such as Mark Zuckerberg, the founder and CEO of Facebook.

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This unique focus is why Silicon Valley Bank is one of Gaby Lapera's favorite stocks. Listen in to this week's episode of Industry Focus: Financials, to hear more about this under-the-radar bank stock.

A full transcript follows the video.

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This podcast was recorded on Aug. 22 2016.

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Gaby Lapera: I have another bank to pitch, and this one is in the complete other direction from Bank of Hawaii. As I was talking to my mother last weekend, she always wants know if I'm going out, and if she happens to call me at like 9 p.m. on a Friday she's like, "Why are you still at home? Are you going to go out?" In honor of my mother, who wants me to live my life to the fullest, and to try and reel back my risk-averse nature, I have pickedSilicon Valley Bank or SVB -- as I'm going to call it through this segment.

Silicon Valley Bank is slightly larger than Bank of Hawaii, with a market cap of around $5.4 billion, but it has a totally different business model. Where Bank of Hawaii is really focused on real estate, Silicon Valley Bank is really focused on commercial loans. It really focuses on lending, in particular, to venture capitalists and start-ups, and as its name implies, it's in Silicon Valley, where there are a lot of those.

John Maxfield: The way I think about Silicon Valley Bank -- I agree it is a great bank, really interesting bank, niche bank with its focus on the technology sector. But what I think about when I think about it, it's like an old-school merchant bank that provides services to technology companies. What's interesting about it is that even though, to your point, it has a different risk profile than Bank of Hawaii because it's dealing with that technology sector, it's almost more on that cycle, as opposed to your traditional banking cycle.

Lapera: Yeah.

Maxfield: What's great about it is that if you look at its balance sheet, it's actually a pretty safe bet from a credit perspective. Because between banks, they take money from depositors, they go out and they either make loans -- which is the way you can make the most money, because interest rates on loans are the highest interest rate a bank can get on the type of assets that it has. You can either do that, or you can go and buy safe securities: government bonds and things like that. Government bonds are safe, so they earn a lot less money. What Silicon Valley Bank does is -- because it makes a good amount of money, particularly for its size, from non-interest sources, by serving as a quasi-merchant bank to the technology sector. It's able to take less risk in its asset portfolio. They actually hold more securities on their balance sheet than they do loans, which is unusual for a bank, but it's great, because it really reduces that risk profile.

Lapera: It's insane. It's something like 80% of their assets are held in securities, or something like that.

Maxfield: Yeah, it's a large chunk.

Lapera: It's really interesting that you talk about "old school," because one of the things that Silicon Valley Bank is most known for is its relationships with its customers. People don't hesitate to take out a loan with Silicon Valley, and venture capitalists don't hesitate to do business with them, because they have a softer touch. Sometimes start-ups, they can be what seems like on the ropes, and [then] rally. Silicon Valley Bank works with these people to make sure that they have the best opportunities to do that, which is not something that all banks are really interested in doing. I think a lot of people have this idea of banks that it's like, when you stop paying your loans, they're immediately on your case and calling you and trying to foreclose on you and all the these things. Silicon Valley Bank is basically the opposite of that for start-ups, which is really important for fledgling businesses like that.

Maxfield: I read the craziest statistic about Silicon Valley Bank the other day, a couple weeks ago. One of the things that it does is, it banks some of the top tech entrepreneurs in the country, and not only banks their companies, but also banks them on a personal level. I read the other day that they were able to get Mark Zuckerberg's accounts. I don't know if they got all the accounts -- I'm sure Mark Zuckerberg has accounts at many banks. They are one of his bankers and they underwrote his mortgage at something like 1.7%. I don't knowexactly on that statistic, but I mean, like, well below the market rate for a mortgage.

Lapera: It's actually really interesting that you mentioned that, because I think their residential mortgages are invitation-only. So, they will reach out to people and venture capitalist firms or start-ups and say like, "We would like to help fund your mortgage." Which implies that the mortgages are probably pretty safe if they're invitation-only.

Maxfield: I don't know about you, Gaby, but I would definitely RSVP in the affirmative for that invitation.

Lapera: Definitely, and just to give you an idea of how Silicon Valley Bank is being run, its efficiency ratio in 2010 was 69.7%; by the end of 2015, it was 53.6%. That's crazy. Just for our listeners, lower is better when it comes to efficiency ratios.

Maxfield: The closer you can get to 50% is the goal. If you can get it under, that's amazing. The one thing to keep in mind about the efficiency ratio is that when it's calculated, it's a function of both your revenue and your expenses. My guess is that the fluctuation there, there may have been a revenue thing going on there, or they had some sort of weird one-time expense.

Lapera: If you look at the trend chart, it definitely starts off at 69.7% and then it definitely, slowly, steps down to 53.6%. Someone is doing something right over there, and [it's] not just that non-performing loans over total loans is 0.73%. I do want to caution people that that is up from 0.27% in 2014 and 0.52% in 2011, but that's still pretty gosh darn low.

Maxfield: That is low. We're in a good credit-rate environment right now, but it's always a good sign when those metrics are low.

Lapera: The other thing that's really interesting to me about Silicon Valley Bank is that they don't just hand out loans. When they're negotiating their packages, they also get warrants, which is the right to buy stocks in companies when they go public...

Maxfield: That's right!

Lapera: ...which can be super valuable. Some of the other companies that Silicon Valley Bank has worked with areTwitterandCisco, which are giants. I don't know if you saw this, butWal-Martbought Jet.com, and included in that purchase was $5 million in financing. That was housed completely at Silicon Valley Bank. So, good for Silicon Valley Bank!

Maxfield: Good for them.

SVB Financial provides credit and banking services to The Motley Fool. Gaby Lapera has no position in any stocks mentioned. John Maxfield owns shares of Facebook. The Motley Fool owns shares of and recommends Facebook, SVB Financial Group, and Twitter. The Motley Fool recommends Cisco Systems. Try any of our Foolish newsletter services free for 30 days.

We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.