A read of last week’s headlines could lead investors to think the stock market had crumbled under the weight of a worldwide financial sector catastrophe:
Global Banking Crisis: One Problem Down Too Many Others Left to Go – CNN1.
Moody’s Sees Risk US Banking Turmoil Can’t Be Contained – Marketwatch2.
American Banks Face a Looming Credit Risk – Financial Times3.
But diversified investors who track their account balances would have been pleasantly surprised to see gains in both stock and bond portfolios last week. Overall, the S&P gained 1.4% for the week, while the Bloomberg Aggregate Bond index gained 0.5%.
The week started strong. Following the forced takeover of Credit Suisse by UBS last weekend, cooler market heads seemed to prevail. Poor investments, compliance failures and a criminal conviction had dogged Credit Suisse for months prior to the recent troubles in the industry. But the tie-up with UBS eased concerns of contagion and allowed for guarded optimism that the worst banking crisis since 2008 was already largely behind us4.
The rally continued on Tuesday, with the S&P 500 and NASDAQ each gaining more than 1%, and the SPDR Regional Banking ETF climbing more than 6%. That pop owed much to Treasury Secretary Janet Yellen saying the government was ready to provide further guarantees for bank deposits if the financial crisis worsened.
Things started out fine on Wednesday, when a largely anticipated 25bps interest rate hike – the ninth in a row – was announced by the Federal Reserve at 2pm and was met with both relief and higher stock prices. Shortly thereafter, unfortunately, Yellen testified before the Senate Appropriations Subcommittee and contradicted her statement of the previous day, stating that the U.S. was currently not working on “blanket insurance” for bank deposits5. Yellen’s comments contributed to a dramatic reversal, with the Dow Jones Industrial Average ending the day lower by more than 500 points. In contrast, bond prices rallied, as investors flocked to the perceived safety of Treasury bonds. Bond yields, which move inversely to prices, dipped lower. In fact, at week’s end, the entire Treasury yield curve (a graphical depiction of yields on Treasury bills and bonds with maturities from 3 months to 30 years) was lower than the Federal Funds Rate6.
Despite some intra-day volatility, markets cruised into the weekend with gains on both Thursday and Friday. Banks rallied in late trading Friday on news that the European Central Bank was prepared to provide further support to the European banking system. And market participants look to be betting that the damage done to the banking sector might have actually finished the Fed’s job for it. At week’s end markets were assigning a 90% probability to no rate hike at its next meeting, and a 94% probability that rates will be cut by the end of July7.
This week will bring a close to a noisy first quarter and will end on Friday with an update on the Fed’s favored inflation measure – the Personal Consumption Expenditure Price Index. We’ll be looking for more evidence that the Fed has, in effect, been sidelined by the banks and that attention can now be turned to the upcoming Q1 corporate earnings season.
Thank you for your confidence in our team,
Asset Management Department
Sequoia Financial Group