I agree that it is a contagion of fear, and wanted to add to the posts here while the topic is hot, and provide some context around the macro picture.
In order to shore up liquidity, today Credit Suisse announced they will borrow 54BN from the Swiss central bank and will repurchase around 3BN of OPCO senior debt securities. This is in response to a big selloff (40%). This is decisive action but shows that even a globally significant bank such as CS is facing issues with liquidity. This is more noteworthy than the Silvergate and Silicon Valley Bank news and will draw the attention of regulators and central banks. What is likely now is the ECB and the FED will have the revise their decision on rate hikes. ECB decision is later today - this will be important to watch following the news about Credit Suisse. FED decision is next week (March 23 I think) - traders are split and there is a lot of uncertainty in the market regarding that will happen. The options are hikes of either 25 or 50 basis points or a pause on hikes. Until this happens and a clear direction is shown there may be some volatility in the markets, and although I am of the opinion it wont affect UNT (more likely to affect financials and larger caps that have large amounts of capital tied up in banks and investments) , the point is that the macro picture is shaky at present and I just thought it was worth mentioning.
Expect a shaky week on the ASX200 which may follow into next week until we have clarity from central banks about their view on this (i.e until after Fed meeting). ASX200 is heavy on the financials (makes up 25% of the index) and so the index is being hit hard as is the financial sector globally. We are not in that sector, nor do we have large amounts of liquidity tied up in banks or other companies that do so (to my awareness) so we are relatively insulated from the fundamental drivers, however fear is irrational and will be across all sectors, creating great opportunities for long-term holders, and increased volatility which should be relished by traders, it just requires more information to be processed to determine price levels and directions, which I hope this macro post helps with.
The biggest thing on the macro front is the struggle between bringing down inflation and not driving the economy into a recession (and further harming the banking sector in the US with a liquidity crunch). Things to watch here are the US housing market (which is contributing to 70% of the inflation increase) and the energy sector. Right now energy-based commodities are in a downturn, providing cost relief and therefore relieving inflation but if this changes and we see an uptick in these commodities, it will more than likely make central banks more hawkish.
Following the banking sector issues in the US, target rates for the FED and the ECB have dropped, so markets are projecting that rates will not be hiked as high as first thought. This is supported by bond markets, where we see an upwards pop in US 2-yr treasury yields followed by a drop caused by increased bond buying - this demonstrates that there are investors buying up bonds (around a a yield of 4%) that are obviously seeing 4% as an attractive yield - what this means is that the market is betting that rates wont increase that much above 4-5% in the long term. This provides some confidence that the market is betting that rate hiking will end soon.
In my view if you want to measure the fear behind the banking crisis at the moment, watch the 1 year credit default swaps (CDS) - and watch the reaction over the coming weeks and months. Looking at the VIX and the MOVE indices can help measure the volatility of equity and bond markets and are important at this time. The VIX shows the expected volatility of US equity market over the next 30 days (via weighted SPX puts and call options). The MOVE index is similar but it measures the volatility in the treasury markets (i.e. sovereign fixed income). In addition to watching these indices, I recommend also watching the 1 year sovereign credit default swap (CDS) as it is a measure of the fear of sovereign default, and although it may be an over-reaction, it is a good measure of just how much people are willing to pay to insure their money (they are the buyers of the CDS)
Here is a chart of the 1 year CDS spread (left) and a list of the 5yr CDS spread across the world (note the US - 78% increase)
Investment banks and hedgefunds are making a killing from selling these CDS at increasing spreads to buyers that are fearful of sovereign default risk. At the same time traders buying up the CDS at the start of the banking sector crisis will be making good money on those trades and we should see a selloff in the CDS market if things settle down (i.e. banks take necessary steps like Credit Swisse, and central banks step in and exert appropriate oversight).
Here is a chart of the MOVE index (measures volatility in treasury markets) - an overview
MOVE again (recent price action over last couple of years)
So the point here is to expect volatility across the board (equities and fixed income) in the near term - very important for traders here.
The Fed has failed in my opinion in their oversight of SVB (it is supposed to regulate as well as set monetary policy) but some responsibility also lies with the legislature. There is also alot of discussion around whether or not the 2018 rollback on the 50BN banking threshold will be repealed in a bipartisan move. For those who may not now, the original legislation indicated that banks with at least 50BN in assets had to undergo an annual Fed stress test to ensure appropriate liquidity. Following the 2018 rollback, this level was raised to 250BN, which only includes around a dozen banks at the time. What this means is that the regulator has less oversight over more banks and places more trust in the banks themselves. This is good for the financial sector and the economy in times of dovish monetary policy, but it presents greater risk in times of hawkish monetary policy, especially when inflation is 'sticky'. Althought the Fed may not be responsible for not being aware of SVB's liquidity and solvency, their delay in increasing rates has led to the fastest rate increase in history (at least that I am aware) that has put the banking sector at risk.
Banks invested heavily in bonds in 2020 and 2021, see the chart and note how Government debt increases from around 3 to nearly 4.5 trillion of Commercial bank assets from 2020 to H2 2021.
The reason for the bond buying was to counteract low borrowing from businesses (who were affected by supply chain issues due to covid and associated rules) and consumer borrowing was also down due to government stimulus - so one of the only markets banks could invest in at the time was in Government debt. So we have 2 years of bond buying followed by 2022 - the worst year for bond markets in recent times. This was due to rapid rate increases by the Fed, which essentially devalues bonds of a lower yield (i.e ALL the bonds that had been purchased the previous 2 years are now junk). Banks like SVB have had to sell these at a massive loss to generate liquidity to meet debt obligations before going under, which shouldnt have been necessary in my opinion. In short, the central bank has not been on top of just how much pressure the banking sector has been under and has been too focused on inflation in my opinion. This should have been a balancing act to begin with, rather than after the fact (recent collapse of SVB). To balance this perspective, commercial banks were likely over-exposed in bonds and need to re-evaluate just how safe they are following a pandemic and excessively dovish monetary policy (they probably could have predicted inflation which always follows dovish policy and the subsequent devaluing of sovereign debt)
Anyway its easy to judge, and this post wasnt intended to be a criticisim of central banks or commercial banks, just an observation and its my opinion only. Balancing sticky inflation with the pressure on the banking sector is a difficult one, not to mention the geopolitical factors that continue to affect the macro picture.
This is just to help clarify some of the price movements that may occur in the indices and help narrow down what I think is important to focus on moving forwards regarding the macro picture following the Credit Suisse news.
