No good options: We said ahead of the Federal Reserve’s rate decision yesterday that it faced no good options. And that’s kind of what was demonstrated last night – the market saw a dovish hike, with the Fed signalling it’s all but done with rate rises this year; and stocks initially rose. But Jay Powell’s later warning in the press conference that credit conditions may be tighter than they appear – and the sense that if the Fed is done hiking then it’s because the fallout from the regional bank crisis could be worse than expected and lead to a credit crunch – sent stocks tumbling; the S&P 500 fell 1.65% on the day, sliding over 100pts from its high to close at the low of the day. The 3,936.97 close also took it below the 200-day moving average at 3,932.40. The Dow and Nasdaq fell almost identically, whilst the small cap Russell 2k finished down 2.83%. European stock markets were generally weaker in early trade on Thursday, as was the dollar which kicked on down to its weakest since early Feb. Crude oil trends higher with WTI (May) above $70 again. US futures are higher. 

How tight is it?  

The Fed hiked by 25bps to 4.75-5.00%, the 9th hike in a row. But the language was softer with the statement saying that additional policy ‘firming’ may be appropriate – notably less hawkish than additional rate hikes. Firming can happen if inflation declines but you leave rates where they are, a kind of monetary drag. Hike to beat inflation, don’t hike because you think the system is on the rocks – neither good outcomes, neither good for risk. 

The Terminal rate was left unchanged at 5.1% but you have to consider how strong the higher for longer message was just three weeks ago when markets were inching closer to a 6% peak. The 2024 rate projection is 4.3% (from 4.1% before) - which means some cuts pencilled in for next year but less than before. On the economic front, Fed policymakers expect slower growth and more inflation this year – no mention of inflation easing this time which reflects the data we have seen (Powell was too quick on the draw on Feb 1st). Powell said policymakers did consider pausing rates at this meeting, but they are not planning rate cuts this year. The Fed acknowledged that recent developments are likely to lead to tighter credit conditions – will weigh on hiring, economic activity and inflation. It was not a huge acknowledgment of the banking situation; but Powell’s later remarks in the presser were taken as a sign that the Fed is concerned.  

Uninsured deposits  

Banking shares in the US slid again as Treasury secretary Janet Yellen pushed back against the idea of a blanket deposit guarantee. “I have not considered or discussed anything to do with blanket insurance or guarantees of deposits,” she told a Senate hearing. Yellen has indicated the US government would step in if required – ie if the bank was deemed to be systemically important. But you have to ask yourself, what bank wouldn’t be considered systemically important in the current environment? If another bank goes – be it First Republic or another – it would cause waves not ripples. When a bank failure "is deemed to create systemic risk, which I think of as the risk of a contagious bank run...we are likely to invoke the systemic risk exception, which permits the FDIC to protect all depositors, and that would be a case-by-case determination”, Yellen said.  

The push back sent bank shares lower with the KRE regional banks ETF down almost 6% and the KBW Nasdaq banks index off almost 5%. First Republic Bank declined 15% having traded higher at one point during the session. Wall Street’s largest banks declined, too, with Wells Fargo, Bank of America and Citigroup down roughly 3%. Jay Powell meanwhile stressed that the banking system was fine and that “depositors should assume that their deposits are safe”.  

Getting busy with the Swissy 

The Swiss National Bank hiked rates by 50bps this morning, taking the ECB’s cue in shrugging off financial stability risks to pursue its monetary policy goals undisturbed. The Swissy rose to a week high against the dollar on the news. Meanwhile, regulator Finma justified its decision to wipe out CS CoCos. “The AT1 instruments issued by Credit Suisse contractually provide that they will be completely written down in a ‘viability event,’ in particular if extraordinary government support is granted,” FINMA said in a statement. “As Credit Suisse received extraordinary liquidity assistance loans secured by a federal default guarantee on 19 March 2023, these contractual conditions were met for the AT1 instruments issued by the bank.” Many international investors do not share this view – particularly as a last-minute law change was used as the basis to wipe out the bonds. It comes down a question of reputation – do you honour financial contracts and obligations or are you a banana republic that makes up the rules as you go? UBS shares are down slightly this morning – Odey has taken a big stake. 

Bank of England ahead  

Markets expect the Bank of England to continue with its rapid tightening cycle with another hike to the benchmark rate by a quarter point to 4.25%. Yesterday’s surprise acceleration in inflation will tie their hands in many ways, even as doves point to the OBR forecasts of inflation returning to 2.9% this year. Strength in the labour market and a strong degree of economic resilience means a hike is what we should be seeing. The dissipation of the market turmoil of the last fortnight combined with the inflation surprise yesterday make this an easy call – though it had been much tighter at the height of the banking stress on Monday.  

Euro firmer  

Markets are getting a bit more bullish on the euro with the Fed seen as nearly done (it could still hit 6%) and the European Central Bank is sounding more confident in the ability of the bloc’s banking system to withstand the Credit Suisse fallout. The message from Lagarde and co this week is that the inflation battle is not over, whilst the market is saying the banks are holding up ok. EURUSD pushed up to test 1.0930 this morning, its highest since the start of February.  

Psychological effects  

German regulators say the run of bank of collapses in the last few weeks has had a psychological impact on bank markets, even though it’s all fundamentally sound. But isn’t that the point – SVB deposits were fine really. A run is a psychological phenomenon as much as it is physical. “The system here is still robust and stable and hasn’t been touched in any direct way from these turbulences in other jurisdictions,” BaFin President Mark Branson told Bloomberg.  

Crypto bro-no!  

Shares in Coinbase fell 11% in the pre-market after the SEC issued the crypto exchange a Wells notice, warning it had identified potential violations of US securities law. The decline added to a more than 8% drop in regular trade, but COIN is still up a whopping 130% this year as cryptocurrency markets recovered. The recent de correlation of Bitcoin has been a hot topic of late as the banking ‘crisis’ unfolded – has it really become a hedge, or a place to park your cash if you fear for your bank deposits? I kind of subscribe to the idea that it’s more of an unwind of some pretty aggressive momentum trades as investors recoiled from the blowout in banks.