Market bulls were hopeful that the Fed's quick move to protect deposits at Silicon Valley Bank (SIVB) would help stabilize the market, but they didn't count on another banking crisis to immediately occur in Europe. Credit Suisse Group AG (CS) melted down overnight and dropped as much as 25% before news hit that some discussions were being held on how to deal with the issue.
CS will likely get help in the days ahead, but the problem now are concerns that this is just the start of a series of issues in the financial sector. The irony is that the Fed helped to create these problems with its aggressive rate hikes to battle inflation. Many banks had parked excess liquidity in very low-interest bonds, and those bonds lost substantial value as rates increased.
The Fed still has the problem of inflation, but now it also has the problem of the economic damage that has been done by raising rates so fast.
What was most notable about the action Wednesday, outside of the CS situation, was that the market had a negative reaction to a soft producer price index report. A week or so ago, the market would have jumped higher on any news that inflation was cooler than expected, but the reaction was negative because now the problem is that the market is more concerned about how higher rates are hurting the economy and will drive a recession. At least one strategist said that a soft landing was off the table, and the odds are growing of a hard landing.
Moves in interest rates seem to confirm the likelihood of a recession. The market now anticipates that there will only be very small rate increases before the Fed starts to cut later this year. The only way the Fed turns that dovish that quickly is if there is a recession.
The transition from inflation worries to growth worries was inevitable, and it signals that the next phase in the bear market is here. The market will now have to figure out how to price in the complications that lie ahead. It is pretty clear that banks will see some big drops in earnings estimates as credit markets shift, and that is still too murky to discount effectively.
There are some economic reports coming up, but the next big market event is the Fed interest rate decision on March 22. Developments in the banking sector are going to have a very big impact on what the Fed does next. That uncertainty is going to keep volatility and uncertainty elevated.
The bulls have consistently made the mistake of thinking that the market was in a position to overcome various economic obstacles, but the solutions just seem to create new obstacles.
Breadth was about three-to-one negative, and there were about 700 new 12-month lows, but strength in Microsoft (MSFT) and some big cap names pushed the Nasdaq 100/Invesco fund (QQQ) into positive territory, although a third of the components had gained.
Technically, the S&P 500 still has some support at the December lows, but the Russell 2000 fund (IWM) undercut that support and looks much worse, in large part that is due to the many small banks that are in the Russell 2000.
The bear market is evolving, which is good, but this new phase is just starting. Stay patient and keep plenty of cash on hand.
Have a good evening. I'll see you tomorrow.
