Crisis?
What it is that I think some of us are feeling as time molds Monday morning out of what was Sunday night just a few hours ago, was or is the lack of some urgent crisis averting race as government officials, regulators and central bankers work to solve some kind of financial "black hole" ahead of Monday morning opening bells from Australia across the Asian continent.
Last Sunday, we witnessed the shotgun marriage between a reluctant UBS Group (UBS) , and their former chief rival, Credit Suisse (CS) , that came apparently just ahead of the financial collapse of the acquired. The week prior we saw the Federal Reserve Bank enter into a new lending program and enhance another in order to make nearly absurd levels of liquidity available to US banks finding themselves in need in response to the failures of both Silicon Valley Bank (SIVB) and Signature Bank (SBNY) . The Fed also made it easier for foreign accounts to seek dollar funding if necessary.
Not that US markets and the underlying economy do not face a number of challenges. Oh, they do, and there is plenty of potential for crises among them. First Republic Bank (FRC) has been part of this shock to the regional banks since the beginning. Eleven of the largest US banks deposited an aggregate $30B at FRC to help shore up that bank, while also attempting to demonstrate that the US banking industry was capable of defending itself. In addition, US fiscal/monetary authorities are said to be working on, or at least considering, a new or expanded lending facility in addition to what has already been done, thus permitting First Republic (or any other qualifying bank facing serious duration risk) at a time of massed withdrawals against deposits to "buy" enough time to shore up their balance sheets
On That Note...
Bloomberg News had reported that two regional banks, Valley National Bank (VLY) and First Citizens Bancshares (FCNC) had submitted bids to the FDIC (Federal Deposit Insurance Corp.) for Silicon Valley Bank ahead of Friday's midnight deadline. The FDIC has been trying to sell the failed bank for the past two weeks. The rumor mill had First Citizens, as of Sunday night, close to a deal.
A few hours later, it was clear. North Carolina-based First Citizens Bank would acquire much of what had been Silicon Valley Bank. As the FDIC announced that a deal had been reached where First Citizens would take on SIVB's deposits and loans, as well as operate SIVB's 17 physical branches, the regulator also announced that the collapse of Silicon Valley Bank would cost its Deposit Insurance Fund roughly $20B. This cost is to be absorbed by member banks.
The deal, according to the FDIC, will include the purchase of about $72B worth of Silicon Valley's assets at a 23% discount and will leave a rough $90B worth of securities and various other assets with the FDIC in receivership. As of March 10th, which was little more than two weeks ago, Silicon Valley had (on paper) about $167B in assets and $119B in deposits.
Pending Doom?
Equities have more or less held their own of late. Meanwhile, the bond market, or more specifically, the market for US Treasury securities has moved sharply toward pricing in a probably not so subtle economic recession in the not too distant future. This market has moved to reflect a high probability of the Federal Reserve Bank likely having to reverse course on policy in the near term as credit creation slows and as the velocity of money itself decelerates. Just check out the yield for the US Ten Year Note month to date...
First thought... incredibly sharp. Second thought... Look at the yield for the US Two Year Note. That's when the jaw drops open...
This has forced what had been a badly inverted spread between these two yields, which is a harbinger for the coming of economic hardship on a national scale to move much closer toward un-inverting.
For those who have not been around that long or just have not seen these things up close before, this un-inversion is not necessarily the good thing that you might think it is. The yield curve tends to invert well ahead of any actual economic contraction and then un-invert as the slope of said curve steepens just as recession becomes imminent.
Now, that is usually because the Fed recognizes the coming recession and takes short-term interest rates lower. In this case, we do not have that. The Fed, in deed and in word, appears to be attempting to remain in tightening mode in order to prioritize the inflation fight over both economic growth and national financial stability. While we recognize what the bond market is trying to tell us, we also recognize that this Fed is not playing by precedent.
The Fed
Last week, the FOMC took their target for the Fed Funds Rate up 25 basis points to a range of 4.75% to 5%. They did this, while recognizing in their official statement, that the recent realization of the banking crisis (that has been brought about by the Fed's aggressive year of policy tightening as well as either recklessness or inexperience in portfolio allocation at a number of regional banks) would likely result in "tighter credit conditions for households and businesses." The Fed also sees these tighter conditions weighing "upon economic activity, hiring and inflation." In addition, the Fed also committed to the continuance of its "quantitative tightening" program that should drain the central bank's balance sheet of $95B worth of debt securities per month.
Obviously, this QT program has been like a salmon swimming upstream as the Fed has been forced to provide liquidity in much larger dollar amounts to the banking community over the past two weeks than it ever would have anticipated, and this has bloated said balance sheet. Understand, because this is key, that the way most of this liquidity has been provided is short-term and comes with a cost, so this is very different from the Fed's "quantitative easing" program, and instead of boosting liquidity levels throughout the economy is more likely to end in tighter, perhaps much tighter credit conditions across lenders working within in the US economy at the Main Street level.
The FOMC also provided the public and the media with its quarterly economic forecasts, which quite ridiculously, at the median, show only minor adjustments from three months earlier. This, despite significantly altered conditions. The Fed still has a somewhat Pollyannaish view of where unemployment, and inflation (not to mention the Fed Funds Rate) will go as the economy slows.
Minneapolis Fed Pres. Neel Kashkari, who does vote on policy this year, and over the past year has been one of the more hawkish officials at the Fed after having been one of its more outspoken "doves" for several years prior, appeared on the CBS News show "Face The Nation" on Sunday. Kashkari told Margaret Brennan, "What's unclear for us is how much of these banking stresses are leading to a widespread credit crunch. Would that slow down the economy? This is something that we're monitoring very, very closely. It's too soon to make any forecasts about the next interest rate meeting (on May 3rd).
Chances Are...
At zero dark thirty on Monday morning, I now see Futures trading in Chicago showing a 70% likelihood of no change in the Fed Funds Rate at that May 3rd meeting. There is currently a 30% chance for another 25 basis point increase. There is also a 75% probability that the FOMC continues to stand pat on rates at the following meeting on June 14th.
These futures markets are currently pricing in the first rate cut on July 26th, and a target range of 4% to 4.25% by year's end. These markets see the Fed Funds Rate at 3% to 3.25% by July 2024.
The Week Past
The Fed was certainly not the only game in town last week. Not even close. Unfortunately, as Fed Chair Jerome Powell was holding the FOMC's post-decision press conference last Wednesday, Treasury Secretary Janet Yellen was almost simultaneously appearing before a sub-committee of the Senate Banking Committee.
As Powell was trying to reassure depositors of the strength and resiliency of the US banking system, Yellen made the mistake of indicating that she had not given thought to or spoken with anyone about working with legislators on expanding on FDIC deposit insurance or insuring depositors in some other way. In doing this, Yellen not only contradicted the message that Powell was trying to send, but also her own message that she had delivered just a day earlier.
It would be comical if it were not so serious, but then on Thursday, before a sub-committee of the House Appropriations Committee, Yellen delivered a nearly identical address to what she had said on Wednesday, this time making sure to unwind her unfortunate comment from a day earlier and trying to realign herself with Powell and what she has said on Tuesday. All I can do as your author is shake my head.
As far as the macro for last week is concerned, February Existing Home Sales printed above expectations and up from January, breaking a 12 month losing streak for the series. February New Home Sales, though falling short of consensus view, also printed up from January. Lastly, February Durable Goods Orders as the headline print, as well as the contributory prints for ex-Transportation, ex-Defense and Core Capital Goods Orders all disappointed on Friday.
On the bright side, the S&P Global Flash PMIs for both the Manufacturing and Service sector economies beat expectations, though the flash remained in contractionary territory on the manufacturing side.
Marketplace
Equity markets ended the week in a better place than one might have had the right to expect, given the news flow and the selloff that followed the Yellen gaffe on Wednesday. Trading volumes cooled significantly from the week prior, and there still seems to be a trend in place where trading volumes have been expanding during selloffs and contracting during rallies. That said, equities have hung in there and for the most part, posted a positive five day period for the past week.
Readers will see that the Nasdaq Composite had managed to take back its key moving averages the Friday ahead of last week, and managed to successfully hold above both its 50 day and 200 day SMAs, while riding the 21 day EMA higher.
The S&P 500 has also managed to find support at its 200 day SMA, which is crucial, but has up until now, met stiff resistance at its 50 day SMA that it has been unable to overcome, while not really respecting its 21 day EMA in any way whatsoever.
For the past five trading days, the S&P 500 gained 1.39%, after a rally of 0.56% on Friday. The S&P 500 closed last week up 3.42% year to date. The Nasdaq Composite gained a cool 1.66% for the past week on top of the week prior's gain of 4.41%. This put this index up 12.97% for 2023.
The Philadelphia Semiconductor Index has been a beast this year. Not this past Friday though. This index, which readers know that I always watch closely, surrendered 1.67% on Friday, but still managed a gain of 1.22% for the week, and now stands up 23.27% for the year.
This leaves us with the Russell 2000. The Russell 2000, as the market's leading small-cap index, is highly reliant upon the potential for economic growth as a driver. The Russell 2000 gained 0.85% on Friday, but just 0.52% for the week. The Russell is now down 1.49% for 2023.
We have kept a closer eye on the KBW Bank Index for a couple of weeks now. This index finally calmed a bit last week, giving up just 0.53% over the five days, after gaining 0.42% on Friday. The KBW is down 22.28% year to date.
Eight of the 11 S&P sector-select SPDR ETFs shaded green on Friday, as nine shaded green for the entire week. Growth and certain cyclicals dominated the week, as Communication Services (XLC) led the way, up 3.26%. Energy (XLE) , and Materials (XLB) were up next at up 2.25% and 2.16%, respectively. Seeing sectors such as this do well, sort of runs counter to the bond market's apparent expectation for an imminent recession, but one must also consider that this price action could also be the result of late week dollar weakness. The defensive sectors led the rally on Friday, but were the weaker performers for the week.
According to Dow Jones, the S&P 500 now trades at 17.75 times forward looking earnings, which is up from 17.72 times a week ago. This ratio remains well below the S&P 500's five year average of 18.5 times, but has recaptured its ten year average of 17.3 times.
The Week Before Us
What to expect? Much of Silicon Valley Bank has been sold. What becomes of First Republic Bank? What of Deutsche Bank (DB) ? This will be a busy week even without much to look at on the earnings front.
As far as the macro for the week ahead is concerned... Tuesday brings Case-Shiller Home Prices for January, the Conference Board's Consumer Confidence print for March and the Richmond Fed's manufacturing survey for March as well. That survey is arguably considered by some to be the nation's second most important regional manufacturing survey (second only to Philly).
Thursday will be a big day in terms of external market impacts as there are four Fed speakers scheduled for that day. In addition, the ever dangerous Secretary Yellen is set that day for a late afternoon speech as well. Finally, after the closing bell, the Fed will report the size of its balance sheet as it does every week, but now this release has become an event.
Friday will be a big day for macro lovers. February data on Personal Income, Personal Spending are due as is PCE and Core PCE inflation for February, which is the measure of inflation that the Fed follows more closely than any other. When the Fed targets 2% inflation, this is the metric they refer to.
As readers well know, we are now in between earnings seasons. And this week will again be light on earnings. That said, there will still be a few names reporting that are quite noteworthy. On Tuesday morning, we'll hear from McCormick (MCK) , and then on Tuesday afternoon... Lululemon Athletica (LULU) and Micron Technology (MU) . On Wednesday morning, Cintas (CTAS) reports, followed by RH (RH) , which is the old restoration Hardware on Wednesday afternoon.
Thought...
Anyone else think adding a third mandate to the Fed's stated mission might be a good idea? How about instead of simply seeking both full employment and price stability, which as the Phillips Curve illustrates can be diametrically (but not necessarily) opposed, we add something about maintaining financial stability, thus giving the central bank more leverage to act in a crisis without having to consider whether or not some crisis or event lies potentially outside of the purview of their dual mandate. Food for thought.
Economics (All Times Eastern)
10:30 - Dallas Fed Manufacturing Index (Mar): Expecting -11, Last -13.5.
The Fed (All Times Eastern)
17:00 - Speaker: Reserve Board Gov. Philip Jefferson.
Today's Earnings Highlights (Consensus EPS Expectations)
Before the Open: (BNTX) (7.75), (CCL) (-.60)
After the Close: (PVH) (1.67)
(Energy Select Sector SPDR Fund is a holding in the Action Alerts PLUS member club. Want to be alerted before AAP buys or sells XLE? Learn more now.)
