Daily market snapshot

Friday, 3/24/2023 p.m.

• Stocks pare back early losses: Equities finished higher on Friday even as jitters over stress among global banks persist into the weekend. Deutsche Bank is just the latest name to come under notable selling pressure as investors worry about the overall health of the banking system and economy. The tech-heavy NASDAQ relatively outperformed the value-heavy Dow Jones. Elsewhere, bond yields fell, with the 10-year Treasury around 3.4%, a cautious move by investors who expect economy fundamentals to deteriorate in the short term. European and Asian shares slid. Commodities across the board seem to be move lower as well, driven by the price of oil, which could come as a sigh of relief for policymakers concerned about inflation. But the move also reflects lower forward-looking economic demand estimates as investors price in slower economic growth.
• Focus shifts to Deutsche Bank: After two U.S. bank failures (SVB, Signature), markets have been on edge amid worries that financial stress could spread across the broader banking system. The spotlight has shifted to Deutsche Bank today, with the German lender's shares falling sharply and the price of credit default swaps (an instrument of insurance against bond default) spiking. After the recent fall of Swiss bank Credit Suisse that resulted in a buyout from UBS, investors are taking a sharp pencil to other European banks that may appear vulnerable. It's premature to assume Deutsche Bank is headed for the same fate as Credit Suisse, but this is consistent with our view that turmoil in the banking system is unlikely to disappear as quickly as it emerged. Deutsche Bank has faced financial challenges for many years (similar to Credit Suisse) so recent conditions have likely amplified existing weaknesses. This is not to suggest that this is all smoke and no fire, but we think there are differences between what's playing out with Deutsche Bank and what's transpired with smaller bank failures in the U.S., which have been concentrated in banks with unique customer bases and abnormally high levels of uninsured deposits. Overall, markets are likely to remain anxious over the prospects of the turmoil spreading across the banking system, with today's Deutsche Bank news adding to that anxiety. We believe there are notable differences between today and the crisis in 2008, and we maintain our view that while the turmoil will continue to rattle markets, we do not believe this will result in a widespread U.S. banking crisis.
• Market swings continue, but equities have been resilient: Despite Friday's weakness, markets are holding up for the week and are higher since the banking crisis started two weeks ago. Looking under the market's hood, the financial services sector has experienced the most weakness given the declines in bank stocks, most notably within the small and regional banks, with the regional-bank subsector of the S&P 500 down 35% this year. Elsewhere, the consumer discretionary, technology, and communication services sectors are notable outperformers, with the tech sector up nearly 20% this year, benefiting from the sharp drop in interest rates spurred by downward revisions to expectations for further Fed rate hikes. With banking turmoil adding to the outlook for a softer economy ahead, cyclical investments like small-caps, along with the energy and materials sectors, have also lagged recently. In that same vein, bond yields have fallen from their recent peak in March, with the 10-year Treasury yield dropping from 4% to 3.3% in just the last few weeks*

^*FactSet

Sloane Marshall, CFA
Associate Analyst

Thursday, 3/23/2023 p.m.

• Markets attempt to rebound after post-Fed-meeting sell-off. Stock markets were mixed on Thursday, as investors welcomed an updated message from U.S. Treasury Secretary Yellen who noted that regulators would be prepared to take additional steps to ensure American deposits are safe. Markets were also digesting Wednesday's Federal Reserve meeting and a softer tone around the need for further rate hikes. Notably, the statement released by the Fed regarding rate hikes shifted from "ongoing rate increases will be appropriate" to "some additional policy firming may be appropriate." Markets now expect no further rate hikes by the Federal Reserve, which historically has been positive for both equity and bond markets. The Bank of England also pushed ahead with another 0.25% interest rate increase this morning, focusing on its ongoing inflation battle. Bond yields were sharply lower on Thursday as well, with the 2-year Treasury yield below 4.0% once again, as investors flocked towards safe-haven assets and priced-in a potential pivot in Fed rate hikes in the second half of the year.
• As expected, the Federal Reserve raised interest rates by 0.25% at its March meeting, bringing the fed funds rate to 4.75% - 5.0%. The FOMC balanced two messages at this meeting: one around battling inflation, and the other around providing support for the banking system. On the banking crisis, the Fed remains ready to continue to use its liquidity tools to support the banking sector as needed, through areas like offering emergency lending and increasing the flow of dollars. While it acknowledged that recent turmoil in the banking sector may lead to tighter credit conditions and a slowdown in economic activity, it continues to see the U.S. banking system as "sound and resilient." On the inflation front, the FOMC continues to use its monetary policy tools to slow economic activity and cool inflation by raising rates by 0.25% and bringing the fed funds rate to around 5.0%. Importantly, FOMC members believe the Fed may be closer now to the end of its tightening cycle. While tighter credit conditions may impact economic activity, in our view the silver lining may be that inflation, particularly the stickier services inflation, may ultimately start to moderate as well.
• In both the equity and bond markets, we have seen more defensive posturing over the past month. Sectors such as consumer staples and health care, which are traditional defensive areas, have outperformed, alongside quality growth and parts of technology, which also tend to do well when yields are moving lower. Similarly in the bond market, we have seen Treasury yields move lower as uncertainty rises and investors flock to traditional safe-haven assets. We see this trend potentially persisting near-term as confidence in the banking sector may take time to fully return. In our view, an economic downturn continues to remain the base-case scenario, and markets over the past 15 months have reflected some (or even much) of this outcome. However, we see opportunities forming in both the equity and bond space in the months ahead, beyond the more recent defensive posturing, as markets start to look past the economic downturn and towards a recovery ahead. Investors can use near-term market volatility to rebalance, diversify and add quality investments at better prices, ahead of a potentially more sustainable rebound to come.

Mona Mahajan,
Investment Strategist

Wednesday, 3/22/2023 p.m.

Three key takeaways from today's Fed meeting

As expected, the Federal Reserve raised interest rates by 0.25% today, bringing the fed funds rate to 4.75% - 5.0%. The FOMC balanced two messages at this meeting: one around battling inflation, and the other around providing support for the turmoil in the banking system. On the banking crisis, the Fed remains ready to continue to use its liquidity tools to support the banking sector as needed, through areas like offering emergency lending and increasing the flow of dollars. While it acknowledged that recent turmoil in the banking sector may lead to tighter credit conditions and a slowdown in economic activity, it continues to see the U.S. banking system as "sound and resilient." On the inflation front, the FOMC continues to use its monetary policy tools to slow economic activity and cool inflation by raising rates by 0.25% and bringing the fed funds rate to around 5.0%. Importantly, FOMC members believe the Fed may be closer now to the end of its tightening cycle.

Below are three key takeaways from today's Fed meeting:

1. The Fed raised rates by 0.25%, as expected, but seems closer to the end of its rate-hiking cycle: Perhaps one of the key takeaways from the March Fed meeting is that the FOMC maintained its outlook for a peak fed funds rate of 5.1%. This implies that perhaps one more rate hike of 0.25% may be ahead of us, which is in line with current market expectations. The statement released by the Fed shifted to a softer tone on rate hikes as well, from "ongoing rate increases will be appropriate" to "some additional policy firming may be appropriate." Markets may have initially welcomed this news, as historically the end of a Fed tightening cycle has been positive for both stock- and bond-market returns.
2. The Fed expects some tightening in the economy after the recent banking-sector turmoil: Fed, however, also acknowledged that the recent volatility in the U.S. banking system may weigh on the economy. The FOMC statement noted that "recent developments are likely to result in tighter credit conditions for households and businesses and to weigh on economic activity, hiring, and inflation. The extent of these effects is uncertain." This was also reflected in the Fed lowering its projections for economic growth in 2023 and 2024 (see chart). Chair Powell did highlight that the length and magnitude of this potential economic tightening is still unknown, as the crisis is quite recent, and may also turn out to be more benign if conditions improve quickly.
3. The Fed is prepared to act as needed to support the stability of the banking sector: Finally, Fed Chair Powell reiterated a firm message that the Fed remains ready and willing to step in as needed to support the stability of the banking sector. This includes continuing with its emergency lending facility and its long-standing "discount window" program, and supporting the flow of dollars globally. The Federal Reserve has stepped in with emergency measures and global coordination much more rapidly than it has during past crises, including the financial crisis of 2008. While the impact of recent regional-bank turmoil is not yet fully known, Chair Powell did reiterate that "our banking system is sound and resilient with strong capital and liquidity."

Overall, stock markets fell and bond yields moved lower after today's Fed meeting, in part because of the ongoing uncertainty around the impacts of recent banking-sector volatility. Also, keep in mind that stocks had rallied sharply earlier this week heading into the FOMC meeting and remain modestly higher for the week. While it does take time for a crisis of confidence to ease, we continue to believe that there are not yet signs of wide-scale contagion or systemic risk in the U.S. banking system. Large banks have solid balance sheets, diversified sources of revenues, and more regulation today than in 2008. While tighter credit conditions may impact economic activity, the silver lining may be that inflation, particularly the stickier services inflation, may ultimately start to moderate as well. As the Fed projections indicate, headline and core inflation are likely headed lower, and interest-rate hikes are closer to an end (see chart). In our view, a modest economic downturn continues to remain the base-case scenario, and markets over the past 15 months have reflected some (or even much) of this outcome. We recommend investors work with advisors to continue to use market volatility to rebalance, diversify and add quality investments at better prices, ahead of a potentially more sustainable rebound to come.

Mona Mahajan,
Investment Strategist

^{Chart. FOMC Projections Indicate Slower Economic Growth, Moderating Inflation, and Interest Rate Increases Nearing an End}

^{Source: FOMC, March 2023}

ADP: The chart reflects the March FOMC projections of economic growth, unemployment rate, inflation, and the fed funds rate.

Tuesday, 3/21/2023 p.m.

• Markets continue to find footing: Markets were sharply higher on Tuesday ahead of the March Federal Reserve meeting. Despite the ongoing uncertainty around the regional and global banking sector, there has been additional confidence instilled into the system in recent days. The government-led acquisition of Credit Suisse by UBS has provided some stability in the Swiss banking market. And on Tuesday morning, U.S. Treasury Secretary Yellen said in prepared remarks that the government is ready to provide further guarantees if the banking crisis worsens. As a result, equity markets were higher, led in part by the financials sector, which was up over 2.5%. Bond yields also rebounded, with the 2-year yield up around 0.25% to 4.15%. This remains below the recent highs of around 5.0% but shows growing confidence in the banking system and economic stability. Notably, the VIX volatility index, also known as the Wall Street fear gauge, was down over 10% on Tuesday.
• Banking crisis may take time to resolve, but no sign of systemic risk: In recent days, the banking turmoil has seen a bit more stability. The UBS acquisition of Credit Suisse, as well as recent comments from Treasury Secretary Yellen that the U.S. government is prepared to provide further support to the banking sector, has increased confidence that contagion may be limited. Nonetheless, uncertainty remains, including the outcome of regional bank First Republic, whose stock remains down over 80% year-to-date, despite rebounding on Tuesday. The bank has recently partnered with J.P. Morgan to seek strategic alternatives, including a capital raise or sale or partial sale of the bank. Overall, the recent turmoil in the U.S. regional banks, combined with the acquisition of Credit Suisse, may evoke memories of the Financial Crisis of 2008; however, we continue to see two very different environments. Large banks in the U.S. are much better capitalized today, have more diversified sources of revenues (including capital markets, investment banking and wealth management), and are regularly monitored by Dodd-Frank regulations, including periodic stress testing. While volatility may persist near-term and the crisis of confidence may take some time to ease, we do not yet see the scope for systemic disruption to the global banking system.
• The Fed meeting takes the spotlight: All eyes will turn to this Wednesday's Federal Reserve meeting. In our view, Jerome Powell will have a dual message to deliver: one around the Fed's approach to the banking crisis and one around the inflation battle. On the banking crisis, we expect the Fed to deliver a strong message that it has acted quickly and forcefully to provide a backstop to regional lenders, as well as coordinate with other global central banks to offer additional liquidity. It will likely continue to use its liquidity tools to continue to be the lender of last resort for the banking system. On the inflation side, we would expect the Fed to raise rates by 0.25%, bringing the fed funds rate to around 5.0%. Inflation remains well above the Fed's 2.0% target, and, in our view, if the Fed does not raise rates at this week's meeting, this may raise questions around credibility. Overall, we believe the Fed is nearing the end of its rate-hiking campaign, particularly given some of the long and variable lags from its rate hikes may be now showing up in the form of recent banking turmoil. While we would not expect the Fed to pivot rapidly to rate cuts, especially as inflation remains elevated, a pause in rate hiking has historically supported both equity and bond markets.

Mona Mahajan,
Investment Strategist

Monday, 3/20/2023 p.m.

• Markets gain as investors weigh latest bank news: The S&P 500 rose 0.9% and the Dow closed 383 points higher on Monday as equity markets found some comfort in the latest developments playing out in the banking sector. The announced acquisition of Credit Suisse over the weekend, along with a Fed announcement that it has coordinated with global central banks to enhance access to funds, helped ease fears of a spreading banking crisis. Interest rates also rose on the day but remain sharply lower over the past several days amid a "flight to safety" that has boosted Treasury bonds and pushed the 10-year yield below 3.5%, after topping 4% just eight trading days ago. Despite the turmoil in the banking sector, the S&P 500 logged a 1.4% gain last week, as stocks found some footing amid the quick policy responses from the Fed and regulators. Underlying performance reflects a slightly defensive posture, with large-caps outperforming small-caps in recent days, with the consumer staples and health care sectors among the leaders on Monday. While lingering concerns continue to weigh on regional-bank stocks, the financial services sector was higher today as larger banks are showing resiliency. Overall, this is a fairly quiet start to the week, as investors evaluate the evolving situation with the banks and await the upcoming rate decision from the Fed on Wednesday.
• On Sunday, UBS agreed to buy Credit Suisse for $3.25 billion: a deal that values the embattled Swiss bank at less than 15% of its market capitalization three months ago. While the deal itself will impose steep losses on Credit Suisse's investors, we view this transaction as less about the individual terms and more about the effort to restore stability and confidence to the global banking sector. The Swiss National Bank helped facilitate the deal, offering $100 billion in liquidity assistance, while the Swiss government offered up to $9 billion in loss guarantees against the acquired assets. We don't think this marks the end of the banking-system fears, but this will, in our view, go a long way in reinstating some confidence that this isn't snowballing into a 2008-style financial crisis. We'd note that the stress at this stage appears to remain generally contained to the small and regional U.S. banks, with limited signs that there are worries spreading to the large, money-center banks. We think this reflects the fact that challenges in the banking system are not over; however, overall, the U.S. banking system is well-capitalized and capable of navigating this environment.
• The Fed finds itself in a tricky spot: The spotlight will widen out to the Fed this week as markets anticipate the upcoming interest rate decision on Wednesday. The Fed is in a tough spot with this policy move, as it's facing two opposing forces: still-elevated inflation and financial-system turmoil. The former warrants further rate hikes, while the latter supports the case for a pause in policy tightening. Thus, the Fed may face a "no win" situation regardless of this rate decision, as both issues warrant appropriate policy action. Our best hunch is that the Fed will seek to balance both by raising rates by a quarter point while also emphasizing its willingness to expand funding and liquidity programs to stabilize the banking system. We suspect markets will remain on edge as this unfolds, but we maintain our view that we don't believe the markets are poised for another sharp leg lower beyond the lows experienced last October. We think volatility will persist ahead, but a recovery will ultimately take shape as we progress through 2023.

Craig Fehr, CFA 
Principal, Head of Investment Strategy