Market Commentary: Banking On It

by Gayl Mileszko

Recency bias is a term used in behavioral economics that describes the tendency of people to believe that recent events will occur again soon, that the current state of being will continue indefinitely, that headlines which feel ominous and immediate necessitate urgent action. Shark attacks, for example, are extremely rare, but one report can cause widespread panic, keeping tourists from beaches and boaters out of local waters. Lacking the wider-angle lenses of history and mathematical probability, this type of bias affects trading and other short-term decisions that people make — panic selling, bubble buying – fueled by fear or greed in volatile moments. One 2021 study concluded that recency bias is the most common behavior affecting decisions made by investors of every age.

Systemic and Other Risks

Without doubt, it has been extremely hard for both Wall Street and Main Street to have any perspective after a week in which we have seen the second and third biggest U.S. bank failures in U.S. history suddenly occur, a trio of government agency regulators close institutions over the weekend while guaranteeing their uninsured depositors’ access to all their funds, declare a systemic risk and launch another new, unprecedented emergency lending program. All this, together with several attempts at assurances from President Biden, did little to quell the concerns of many bank depositors who have quickly transferred large sums of money to the four largest so-called too-big-to-fail banks. Were SVB, Signature Bank and Silvergate Bank canaries in the coal mine? Many inquiring minds want to know. Few can be blamed for believing that the proverbial sky is falling, that we may be on the brink of another financial crisis involving simple checking and savings accounts, not to mention banks, pension funds, mutual funds and ETFs that have large unrealized losses in long, low- yielding Treasuries as well as highly leveraged instruments.

Blame All Around

Plenty of fingers are being pointed at crypto companies, venture capital firms, and tech startups. Some broadly blame deregulation and poor governance: the head of the San Francisco Fed, the bank board member whose name is forever attached to the last series of bank reform laws. One House committee chair blamed social media in part, dubbing the panicked race to withdraw funds on line as the “first Twitter-fueled bank run” leading to $42 billion of withdrawals in one day. And much spotlight is once again on the U.S. government, our central bank’s policy of holding rates at zero for fifteen years and Washington’s excessive federal spending, how it has all spurred swing-for-the-fences gambits and propped up worthless enterprises.

Concerns on Wall Street and Main Street

Markets are looking for solid ground and it may take quite a bit of time to find it at a time when have seen three banks collapse basically within a 24-hour period. Analysts are dissecting financial statements with a much more critical eye. Both banks and their investors are raising questions about how the new federal loan program will work and whether there will be stigma attached to its use. The backbone of the economy, the U.S. consumer, accounting for more than 68% of gross domestic product, is still being battered and bruised by inflation and the rapid increase in rates. Retail sales are slipping alongside with consumer confidence. And now households have questions about their bank accounts. Not counting credit unions and fintech banks, there are approximately 4,236 commercial banks insured by the FDIC with about 72,166 branches holding $23.6 trillion in assets so what happens next in the bank sector is very much a Main Street concern.

Time for Some Sound Advice

There are many investors on the sidelines right now waiting for things to shake out. Things are a bit eerie at the moment. Some investors are finding great bargains in everything from bank preferreds to tax-exempts. All are wondering about the next institutions, sectors and brands to experience a “run on the bank”, the next time the government will step in to change the rules of the game for shareholders, how bondholders will fare, and how much another bailout might cost us as depositors and/or taxpayers. We had plenty of other worries before last Thursday and they have not gone away. It is a good time to be in touch with your HJ Sims representative to regain perspective, discuss your holdings and the location of your holdings, and review your short- and long-term goals.

Bank on More Surprises

These past three years have worked through some extremely rare and challenging conditions together. We have seen the government come in and backstop just about everything since the Great Recession, but it seems unwise to gamble that this will continue indefinitely. The expression “you can bank on it”, meaning that you can have trust or confidence is said to date back to the late 1800s, alluding to the safety of money locked in a bank safe. Many of us who grew up watching the TV series Baretta will recall how it was popularized in the context of bringing criminals to justice. These days, the only thing we can bank on is that tomorrow will bring us another surprise.

Market Conditions

There are always surprises in the daily financial markets. Some, like the inverted Treasury yield curve that appeared last July, are still with us. Inverted yields began to impact corporate bonds in late September, and municipals in December. At present the height of the Treasury yield curve is the 3-month at 4.72%. The peak of the AA corporate yield curve is the 2-year at 5.22%. The one-year tax-exempt muni yield at 2.70% exceeds the yield on the next 11 maturities. The month of March has been extremely volatile to say the least. The gauge of bond market volatility, the MOVE Index, has risen 37% to 169, a level not seen since May of 2009. The most widely used measure of stock market volatility, the VIX, is up nearly 15% but still well below the early days of the pandemic. Stock indices are down across the board with the Russell 2000 down most at -6.3% this month. There is still a high level of uncertainty over what the Federal Open Market Committee will do at next week’s meeting. Futures trading reflects a 58% probability that members will leave the target rate in the range of 4.50% to 4.75% and resume raising by 25 basis points in May, but then start cutting until rates stabilize at 3.50% through next March.

Primary Markets

This week, corporate bond sales in the primary market ground to a halt as contagion fears have swept through the banking sector and others. One principal focus on Credit Suisse; at this writing its 10-year notes are trading at 872 basis points over Treasuries and every sovereign and private institution is scrutinizing their exposure. The investment grade market, which has been on a tear with $150 billion of volume projected this month, has stalled at $55 billion. None of the failed banks have been active in providing credit or liquidity support for municipal borrowers but there are certainly deposits and investments at other banks that have states, local governments and nonprofits paying close attention to developments. The municipal market is viewed by domestic as well as foreign bond buyers as a haven, so it has been more of a beneficiary of the recent turmoil, although trading has been lighter, particularly in the high yield space. Daily muni trading volume dropped from $19 billion last Thursday to $13 billion on Tuesday, but two charter schools have priced this week and one continuing care retirement community is in the market. In the past five trading days, 2-year muni AAA general obligation yields have dropped 25 basis points to 2.69%. The 10-year and 30-year benchmark yields have fallen 16 basis points to 2.45% and 3.42% respectively. Comparable Treasury yields have tumbled further, with the 2-year government down 75 basis points to 4.25% and the 10-year down 25 basis points to 3.68%.

After One Year of Rate Hikes, Now What?

This week, on the one year anniversary of the first 25 basis point Fed rate hike, expectations are all over the place. Collective Wall Street thinking has been that the Fed raises rates until something breaks. Is this the break? If not, what exactly will it take? Why did it take a year for cracks to show? Do things escalate with the debt ceiling showdown, growing tensions with Russia and China? Will banks start capping the amounts that can be withdrawn from accounts? Will the federal government, already spending $1.29 for every $1 of revenue, and the Fed with its $8.3 trillion balance sheet, tinker further and cause inflation to rise again? We have more questions than answers right now but continue to focus on guiding our valued clients, helping you to generate income, meet investment goals, and obtain financing at the best rates in this and every market condition.

For more information on offerings or questions about current market conditions, please contact your HJ Sims representative.

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