This is not 2008
But banking issues brought to the fore this week are discomforting.
Fast-moving disruptions in the global banking industry are making for highly fluid and uneasy markets. It’s never comfortable when markets are in price discovery mode. But we suggest caution in trying to draw strong parallels to 2007-08, when underlying credit conditions (bad housing loans, falling home prices, too much leverage inside illiquid structures, etc.) spawned the global financial crisis. This time, markets are dealing with a mismatch in assets and liabilities, problematic for sure but, at least for now, not systemic beyond idiosyncratic cases.
Silicon Valley Bank is just such a case. Catering to tech start-ups and venture capitalists, it was flooded with deposits during the pandemic tech boom. But as Covid restrictions eased and the tech boom—and loan demand—slowed, the bank’s massive base of deposits went looking for a home. So, it used the deposits to buy longer-duration government securities, which represented little to no credit risk. Then the Fed launched its most aggressive rate-hike cycle in 40 years, causing the value of those securities to plunge. Because deposit liabilities are short-term obligations that are subject to flight, the bank was left holding securities that would produce large losses if sold and deposits that were subject to flee—and did. The ensuing crunch pushed the bank into receivership. Two days later, similar issues felled another bank, Signature. Compounding the fallout this week was the Credit Suisse news that its largest shareholder refused to step in to add to its holdings, serving to undermine confidence in the banking system at large.
Regulators have taken steps to stabilize the situation and protect depositors. The Fed created a short-term funding facility to stem forced sales of securities by banks that were attempting to accommodate depositor outflows. The program will allow banks to pledge U.S. Treasuries, agencies and mortgage-backed securities as collateral for loans, available for up to one year. Think of it this way: if a bank has U.S. Treasuries bought at par but currently trading at 90%, it could gain a par value from the facility and fund deposit outflows. Once depositors understand that their money is safe, the thinking is that they will be content to leave it in the bank. This should help put out the fire.
Also of note is the timing of these events: March 15 is U.S. corporate tax payment date, leading to corporate withdrawals of cash; March 22 is the end of the 2-day Fed meeting; and March 31 represents quarter-end. In this fraught environment, the market antennae are looking for any clue for additional issues, so the potential for mis-assessment is high.
While Switzerland’s central bank announced late Wednesday that it would step in to support Credit Suisse if necessary, partially reversing a broad bank-stock sell-off, price action remains volatile as markets are sorting out the rapidly changing information flow, which not only could affect the financial health of corporations, but also the trajectory of the Fed’s interest-rate policy. At this writing, fed futures are split 50-50 between the Fed holding steady next week or raising the target funds rate a quarter point. As we wait for the dust to settle, we are keeping our fixed-income portfolios defensively positioned.