Whilst it has been another volatile week in markets, swift action by financial authorities following the collapse of the US bank, Silicon Valley Bank (SVB), last Friday, calmed nerves sufficiently to prevent a deeper loss of confidence in the banking sector. Authorities pledged to protect both insured and uninsured depositors (deposits over $250,000 are uninsured by the US Federal Deposit Insurance Corporation). During the week further banks came under pressure, including First Republic Bank, a US regional bank, and Credit Suisse in Europe. As a show of confidence, several large US banks deposited $30bn of cash into First Republic Bank, providing a large liquidity cushion. Whilst, following a plea from Credit Suisse, the Swiss National Bank said it would step in and offer liquidity support.
SVB has shone a light on the bond portfolios of banks which have suffered sharp losses as rates have increased. However, SVB’s case was somewhat unique in that as a bank to technology start-up company, it had grown very quickly in recent years and had invested a large proportion of its assets in very low yielding and long maturity bonds during the low inflation years. This came back to bite it hard as uninsured depositors lost confidence and began to withdraw their money, forcing SVB to realise its mark to market losses on its bond portfolio.
Despite the turmoil in the banking sector, the ECB still raised rates by 0.5%, citing inflation remaining at levels that are too high and expected to remain so for too long. However, expectations as to the next rate hike in the US moderated, with markets now pricing in either a rate hike of 0.25% or a pause. US inflation data for February was released this week coming in line with estimates, as inflation for the month of February came in at 0.4%, versus 0.5% in January. However, excluding food and energy, it rose by 0.1% to 0.5%. For the year, inflation now stands at 6.0%, versus 6.4% last month, still substantially higher than the Fed’s target of 2.0%.
As of 12pm on Friday, London time, US equities rallied by 2.6% over the week, whilst technology stocks jumped up by 5.2%. However, in Europe, where the banking sector suffered rolling contagion throughout the week, equities fell by 2.8%. The UK market, with a high weighting to financials fell by 4.2%. Similarly, Japanese stocks dropped by 3.6% and the Australian market lost 2.1%. Emerging markets fell by a relatively modest 1.5%, with Chinese stocks rising by 0.6%.
Haven government bonds rallied, with the yield, which moves inversely to price, falling to 3.5% on 10-year US Treasuries, 2.2% on German bunds and 3.3% on UK gilts.
Gold, a haven asset duration periods of distress, rallied by 3.9%, now trading at $1,958 an ounce. Whilst industrial commodities sold off on heightened concerns for global growth. Copper fell by 3.8%, now trading at $8,508, whilst Brent crude fell by 9.7%, now priced at $74.8 a barrel, and US WTI (West Texas Intermediate) falling 10.4% to $68.7.
Whilst the stresses in the banking sector bring back memories of the 2008 financial crisis, this time around we believe that the recent bank failures are far less likely to trigger a global banking crisis. In 2008, much of the excesses built up in financial markets had their roots in property markets, funded by large amounts of cheap debt financing flowing into property securities. This time around, the excesses have been concentrated in niche equity segments and alternative asset markets funded by venture capital. As venture capital tends to be equity funded, when these companies fail, the loss typically ends with the investor, rather than being transmitted through to the financial system as a bad debt. Additionally, bank balance sheets as a result of the financial crisis, are much stronger today. Therefore, although the sharp rise in rates has caused some short-term losses for the banking industry, banks are in a much better position to weather the storm. This has been further reinforced by a decisive and rapid response from regulators to provide confidence to both insured and uninsured depositors.
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