© Reuters. FILE PHOTO: The Federal Reserve Building in Washington, U.S., March 19, 2019. REUTERS/Leah Millis/File Photo
by david randall
NEW YORK (Reuters) – Investors are bracing for a long run in the U.S. stock market, braced for more turmoil in the banking sector and concerns about how the Federal Reserve’s tightening will affect the economy.
Financial stocks in the United States moved sharply over the week after the collapse of two US lenders and last weekend’s Swiss government-orchestrated takeover of troubled Credit Suisse by rival UBS.
“Volatility will continue because we don’t yet know the extent of the disruptions in the banking sector,” said Cameron Dawson, chief investment officer at NewEdge Wealth.
Many worry that other nasty surprises are in the offing as the rapid series of interest rate hikes the Fed has delivered over the past year drain cheap money and widen the fissures in the economy.
“Investors are acting first and looking at nuances later,” said Wei Li, chief global investment strategist at fund giant BlackRock (NYSE:). “It’s understandable because it’s not very clear that this is definitely contained.”
In recent days, investors have focused on german bank (ETR:), whose shares have lost about more than a quarter of their value this month, including Friday’s 8.5% drop, and the cost of protecting against a default on its bonds has skyrocketed, though few place it in a class with Credit Suisse. .
“Today we are not concerned about counterparty liquidity problems” with Deutsche, JPMorgan (NYSE:) analysts said on Friday.
For now, few investors see this year’s events as a repeat of the systemic crisis that swept through markets in 2008, toppling Lehman Brothers and sparking government bailouts.
But investors are wary of another bank run if people think US or European regulators won’t step in to protect deposits.
“It’s almost like a prisoner’s dilemma where if everyone agrees they won’t withdraw their deposits then everything should be fine, but if only one person decides to get out the snowball just keeps getting bigger,” said Tim Murray, strategist in capital markets in the Multi-Asset Division of T. Rowe Price.
Murray is underweight stocks, focusing on money market accounts that offer yields comparable to Treasuries.
‘HIGHLY UNUSUAL’
Apollo Global Management (NYSE:) Chief Economist Torsten Slok said the growing divergence between the Fed’s fund rate and the much lower interest rate on checking accounts is increasing the risk of bank deposit outflows. The Fed raised rates by 25 basis points on Wednesday to the 4.75% to 5% range.
“Higher rates as a source of instability for Treasury deposits and holdings are highly unusual compared to past banking crises, where the source of instability has typically been credit losses putting downward pressure on the illiquid side of bank balance sheets,” he wrote in a statement. Note Saturday.
Data released by the Federal Reserve on Friday showed that deposits at small US banks fell by a record amount following the collapse of Silicon Valley Bank on March 10.
Meanwhile, the Federal Reserve’s emergency lending to banks, which has hit record levels, has remained high in the past week amid ongoing anxiety, data released Thursday showed.
“We’re looking very closely at all of the data on how much liquidity is being pulled from different Fed facilities,” Dawson said. “If we continue to see the use of these facilities, it could indicate that more banks are feeling funding constraints or liquidity needs, which means that the contagion may not have ended.”
The US authorities are considering expanding an emergency lending banking service in a way that would give Bank of the First Republic (NYSE:) more time to shore up its balance sheet, Bloomberg reported on Saturday, citing people with knowledge of the situation.
‘CRISIS OF CONFIDENCE’
Uncertainty about the Fed’s intentions is also amplifying investor doubts about equities and causing wild swings in US government bond prices, after policymakers indicated they were about to halt further increases as concerns in the banking sector risk tightening economic conditions.
Investors piled into the safe haven of US Treasuries over the past week, sending yields on the two-year note, which closely mirrors Fed policy expectations, to 3.76%. , the lowest since mid-September.
More failures in the banking industry could mean rate cuts sooner, as weakening financial conditions allow the Fed to ease its fight against inflation, said Tony Rodriguez, head of fixed income strategy at Nuveen. Futures contracts suggest the Fed will start cutting rates at the end of the year.
Falling interest rates would make dividend-paying stocks and some riskier assets, such as higher-quality below-investment-grade bonds, attractive, Rodríguez said.
Risk assets have been somewhat resilient despite concerns in the banking sector, said Jason England, portfolio manager for global bonds at Janus Henderson Investors. It is up 3.4% this year, albeit far from its early February highs, and rose 1% this week, helped by a rally in tech stocks.
“If inflation goes down because of bank disruptions and creates restrictions for homeowners, the Fed suddenly has its job done,” he said.
England expects longer-duration bond yields to start rising from current levels, making short-term bonds and money market funds more attractive.
In fact, many investors seem to be turning their backs on stocks. US equity allocations fell to an 18-year low while cash allocations rose in March, BoFA Global Research’s most recent survey of fund managers showed.
Investors are likely to remain prepared for another potential high-profile failure until the Federal Reserve or Treasury respond in a way that allays fears of another bank run, Katie Nixon, chief investment officer, wealth management, said in north trust (NASDAQ:), which is focusing on tech stocks with “balance sheets of strength.”
“Right now it’s a crisis of confidence and everyone is looking for direction,” he said.
