Pacwest Plunges as Hikes Continue

Just as Jay Powell, the chairman of the Federal Reserve, was proclaiming the US banking system was “sound and resilient”, news was breaking that another embattled midsize lender was close to the edge. After the Fed’s decision to raise rates by 25bps, reports emerged that PacWest Bancorp was exploring “strategic options”, including a possible sale. Shares in the bank tumbled 50% after-hours to take its YTD loss to almost 72%. Shares in Western Alliance, another embattled regional lender, slumped a further 22% in after-hours trading. KBW will open lower later after sliding almost 2% yesterday.

It’s all hands to the pumps now for PACW, which issued a statement saying it is looking at “all options to maximize shareholder value”. It also stressed that deposits are OK - core customer deposits have increased since March 31st with $28 billion in total deposits as of May 2nd, whilst the level of insured deposits has increased from 71% to 75%. You can’t ask JPM to come to the rescue again. “I think it’s probably good policy that we don’t want the largest banks doing big acquisitions,” Powell said. No but that is what happened because it was the ‘best’ outcome for the banking system and FDIC…unintended consequences. The quicker the Fed gets to a point of cutting rates the better for these midsize banks but there is a lot more time and likely a lot more pain before we get there.

Fed on the Fence?

So, what of the Fed? The FOMC’s statement opened the door to a pause in rate hikes – but did not pre-commit – whilst Powell shut the door firmly on any cuts this year. Powell stressed that the Fed is closer to the end than the beginning. But you have to read between the lines – everyone hears what they want to hear: FOMC opens door to pause in June because that is what everyone wants, it’s how everyone is positioned. That what the market expected anyway – it was Powell’s job to open the door to a hike in June without pushing the market too violently. Powell stressed that "a decision on a pause was not made today" and that "it will take some time" for inflation to fall "and in that world... it would not be appropriate to cut rates".  Moreover, Powell stuck to his basic policy that the Fed is “prepared to do more if greater monetary policy is warranted.”

Main change in the guidance: We went from “The Committee anticipates that some additional policy firming may be appropriate,” in March to this in May: “In determining the extent to which additional policy firming may be appropriate to return inflation to 2 percent over time, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.”

Market Sentiment at Odds with Fed

Market pricing did reflect a higher chance of a June pause but now also suggests strong chance of 75-100bps in cuts by December. This is totally at odds with what the Fed is saying and indicates the market sees real chance of contraction in the labour market and much lower inflation. The dollar fell as US 2yr yields dipped to 3.8% but are a touch higher this morning, whilst the 10yr dipped to 3.34%, trading around 3.36% this morning, a couple of bps higher. 

Powell stressed that more data is needed to consider whether policy is restrictive enough. And the Fed is of the mind that inflation will “come down not so quickly”, creating conditions such that “it would not be appropriate to cut rates and we won’t cut rates”. 

 Wall Street turned lower in the wake of the Fed, with the S&P 500 down 0.7% to 4,090, the Dow Jones –8% to 33,414 and the Nasdaq off by almost half a percent to 12,025. European markets tracked lower in early trading on Thursday with the FTSE 100 down another half a percent to the 7,750 area and the DAX shedding almost 1% to 15,671.

Big Movers of Today

Shell led the FTSE higher with a big beat as adjusted earnings for Q1 hit $9.6bn vs $8.6bn expected, up from $9.1bn a year ago, boosted by fuel trading. Further $4bn in share buybacks announced for Q2. This was a very strong result and only puts more political pressure on oil giants in terms of windfall taxes. I would expect plenty of grumbling from the usual suspects about that $4bn should be going back to the people who are paying the high prices that Shell is benefiting from, rather than the shareholders. Shares rose around 3%.

Crude oil really tanked hard yesterday in response to the Fed and growth worries, with WTI (spot) $64 briefly, before paring losses to trade a close to $69 this morning. Two things with this – one is that with prices breaching $70 it could see OPEC+ talk up more cuts, and it could see the US seek to refill its strategic reserve.  

Finally, Anticipating ECB Hikes and Apple Earnings

Attention now shifts to Europe as the ECB embarks on another hike – less clear whether 25bps or 50bps. Evidence from the bank lending surveys this week show that credit conditions are tightening, whilst EZ inflation paints a mixed picture for the central bank as core inflation cooled slightly to 5.6% but headline rose for first time in six months to 7%.

Apple also due up later today – co has guided a 5% revenue decline on slower Mac and iPad sales, whilst expectations are for -4.4% revenues to $93bn, with iPhones -3.8% to around $48.6bn.  EPS seen at $1.43. Eyes on the guidance for the June quarter – will Apple return to formal guidance or just point in a direction? Expect a decline in that quarter but perhaps slower than in this one. Eyes also firmly on the amount of shareholder returns – analysts see as much as $90bn to be announced in dividends and share buybacks. Shares have rallied 33% this year – quality and balance sheet…but maybe just starting to look a bit pricey again given the macro and declining sales.