WeeklyWatch – Banking sector turbulence leaves markets feeling uneasy

21^st March 2023

Stock Take

If anyone knows what it’s like to be stuck between a rock and a hard place, it’s the European Central Bank and the US Federal Reserve.

Due to the volatility in global bank shares last week, central banks are now faced with an important decision. Do they hold off on raising rates to see if they take hold and meanwhile put up with temporarily higher inflation, or do they continue raising rates and cope with the financial instability brought on by their own political decisions?

US authorities come to the rescue of Silicon Valley Bank

Near-zero interest rates have been present for a decade and a half, so a sharp increase in rates was always going to have negative repercussions. And in debt markets with banks that are used to borrowing almost for nothing, Silicon Valley Bank (SVB) turned out to be a ticking timebomb.

As a turbulent week began for markets, investors had to process that SVB – the 16th largest bank in the nation – and the smaller Signature Bank had been rescued by the US government. As one of 513 regional American banks that have failed since the 2008 financial crisis, SVB was also the biggest.

The greatest gain in short-term bonds in decades was caused by speculation that the Federal Reserve would not raise rates at all this week, given the risks involved. The yield on two-year US Treasuries – a measure of Fed expectations – fell by more than half a percentage point, marking the greatest decline since October 1987 on the day following Black Monday.

Switzerland’s banks have each other’s backs

Saudi National Bank indicated it was unable to support Credit Suisse on Wednesday, so the Swiss central bank stepped in to provide a £45 billion loan. This caused a larger sell-off in European banks’ shares and a 30% drop in Credit Suisse’s share price. Additionally, the FTSE 100 index plummeted by the most in a single day since Russia invaded Ukraine.

On Sunday, news of UBS’s $3.25 billion acquisition of its Swiss banking compatriot surfaced. The agreement will include UBS taking on its former rival’s losses, with the deal expected to be finalised by the end of the year.

Another interest rate hike from the ECB

Of international banks, the first to act on Thursday was the European Central Bank (ECB), which did not hesitate to announce an additional 0.5% hike in its benchmark interest rate, lifting it to 3.0%. The central bank came to the conclusion that inflation was still too high to be ignored and the present level of financial volatility was a price worth paying to stay on track with future objectives. That said, there have been rumours that the choice wasn’t finalised until the financial markets had stabilised and Credit Suisse had secured its lifeline.

In response to the information, shares in eurozone banks fell to lows not seen in two months, but then gained ground when the ECB raised its growth forecast and said that the banks in the region were in a considerably better condition than they were in 2008.

Economic optimism in the US and China

Before their next policy meetings this week, the Federal Reserve and the Bank of England are both in a state of voluntary solitude, so neither institution was able to shed light on how they were seeing the situation – or how it might affect monetary policy choices.

On Tuesday, it was revealed that US CPI inflation increased 6% on an annual basis, down from 6.4% the month before. It ought to have been the major market event of the week, but the financial crisis stole the show. A surge in confidence from equity markets all across the world was sparked by the lack of any unpleasant inflation news. Hopes that the Federal Reserve will opt for a more gradual rate increase at its meeting this week were boosted by the news.

The news that China’s economic activity soared in the first two months of the year – supported by a resurgence in infrastructure investment and consumption plus signs of improvement in the country’s once troubled real estate market – lifted sentiment.

UK Chancellor Jeremy Hunt’s Budget is here

Prior to Jeremy Hunt’s Spring Budget on Wednesday, official data revealed that the number of job openings in the UK has decreased for an eighth consecutive month. But, at 1.1 million, the overall number of openings is still high and far more than it was shortly before the Covid-19 pandemic.

The chancellor outlined his initiatives to motivate people to return to employment, including proposals for more free childcare, the elimination of the lifetime pension savings cap and an increase in the pension annual allowance to £60,000.

Claire Trott of St. James’s Place commented:

“The additional amount that can be saved each year will help those such as the self-employed or entrepreneurs, who may not be in the position to save on a regular basis but want to increase their contributions when times are good or later in life when they are more stable and settled in their businesses.”

The announcement of Hunt’s Budget came as news broke that people’s spending power will shrink by the highest amount in 70 years, as the cost of living rises and earnings are eaten away. Real household earnings will decline by 6% both this year and the following year, according to the government’s independent forecaster.

Market expectations following a wild week

News of a fresh crisis at First Republic Bank – which was salvaged by 11 of the biggest American banks – broke as the week’s wild ride on the equity markets drew to a close. Despite the worst weekly decline in European equities in five months, the S&P 500 index managed to achieve a marginal gain for the week.

Mark Dowding of BlueBay Asset Management observed:

“We have seen some extreme repricing of certain assets and there has been a sense that time feels like it has been sped up and markets are on steroids in terms of moves, which may have played out over several months, now being manifested in literally a few hours.

“This can feel pretty exhausting. However, if we step back, we would sense that, fundamentally speaking, not too much has really changed in the past couple of weeks. We will see markets overshooting in times of volatility and that can make for interesting opportunities to enter trades at attractive levels.”

Wealth Check

Nobody can predict the future, and this point has been made quite clear recently. The many developments that have been made since the turn of the decade have undoubtedly shattered any comfort regarding the stability of household finances.

When Russia invaded Ukraine in February of last year, the Covid-19 pandemic risk had just started to lessen. This is when another time of turmoil began.

Recent occurrences, along with other developments including the growing consequences of climate change, have had a direct influence on household budgets. This has led to rises in fuel, food and other costs, which helped drive UK inflation to a 41-year peak in late 2022¹. The pandemic-like repercussions of the Ukrainian crisis will potentially be seen for some time yet in the global economy.

Inflation has started to decline once more since the year began, although families are still being negatively impacted by high prices. Any rainy-day funds will likely be dwindling or perhaps disappearing for many households as a result of rising living expenses.

The rationale for having some sort of safety net in place becomes much stronger when we take into account more personal life events like sickness, accidents and grief.

Sadly, after years of saving to create that all-important emergency fund for your family, it can take only moments to deplete it. Sometimes it can take just one household crisis to completely empty your rainy-day fund.

Have protection insurance policies in place if the worst was to happen, such as income protection and critical illness insurance, are completely invaluable.

• In the event that you are unable to work due to illness or an accident, income protection insurance helps cover expenses like mortgage payments, rent, bills and other household essentials. When a pre-determined deferral period (generally three to six months) has elapsed, it typically pays out between 50% and 65% of your salary, and most policies will do so for as long as necessary.
• When a specified critical illness or medical condition is diagnosed, Critical Illness insurance will pay out a lump sum.

Though we know it’s not overly pleasant to think about, having to worry about money when an emergency happens is far worse.

For personalised financial advice, speak to one of our advisers today.

Source:

¹ Office for National Statistics, ‘Consumer price inflation, UK: October 2022’, 16 November 2022

The Last Word

“We continue to monitor the situation closely to make sure that there is no unintended inertia or complacency. As the situation evolves, we’re in regular contact with our fund managers so that we can act in the best interests of our clients.”

– Robin Ellis, Head of Portfolio Strategies, discusses our reaction to the banking events that occurred last week.

BlueBay is a fund manager for St. James’s Place.

The information contained is correct as at the date of the article. The information contained does not constitute investment advice and is not intended to state, indicate or imply that current or past results are indicative of future results or expectations. Where the opinions of third parties are offered, these may not necessarily reflect those of St. James’s Place.

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SJP Approved 20/03/2023