Despite the most significant banking crisis since 2008 and 2009, the S&P 500, Nasdaq, and Nasdaq 100 finished the week with gains. The Russell 2000 exchange-traded fund (IWM) , which contains many small financials, was slammed with a loss of more than 5%, and the Dow Jones finished in the red as well.
This was another example of where a small number of big caps offset extremely poor action in thousands of smaller stocks. Names like Microsoft (MSFT) , Nvidia (NVDA) , and Coinbase Global (COIN) sucked up money flowing out of banks, oil, and small caps. Precious metals stocks also were the beneficiaries of some of this rotation.
The action was even more painful when the celebration of a solution to the banking crisis underwent an ugly reversal on Friday. The Regional Bank ETF (KRE) finished at its lowest close since the fall of 2020. Investors were hopeful that fast action by federal agencies would restore confidence in the financial sector. They may have stopped bank runs, but they did not fix the valuation issue. Banks received the short-term liquidity they need to deal with the withdrawal of deposits, but they are still under extreme pressure due to the heavy burden of higher interest rates.
The most notable action this week was a major shift in expectations about upcoming Fed action. A short time ago, the market was extremely confident that the Fed would hike rates by 0.5% this coming Wednesday, but after the poor action today, there is a strong likelihood that the Fed may forego a hike completely.
The Fed not only has to deal with the carnage in the banking system, but also with the increased likelihood of a recession. These problems may help with the inflation issue, but the labor market is still quite strong, and inflation will not disappear quickly or easily.
Bulls celebrated the very small pockets of strength in some semiconductors and AI stocks, but this is not a healthy market. The Fed is in a very difficult position, and the market is unlikely to be pleased with it, no matter what it does. If the Fed doesn't hike interest rates, then it might be taken as panic. If it does raise rates, it may make the balance sheet issues for banks even worse.
Year-to-date performance for the major area of the market shows how chaotic things have been so far in 2023: S&P 500: +2.01%; Nasdaq: +11.12%; the Dow Jones: -3.89%; small caps: -1.42%; gold +5.30%; U.S. dollar 0.80%; oil: -14.84%; bitcoin +50.68%.
It is a good time to stay patient and hold high levels of cash.
Have a great weekend. I will see you on Monday.
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