Global equities managed to close out last week broadly higher despite a late selloff on Friday. Banks were the clear focus once again last week, with a consistent message that the risk of contagion appears relatively low for now. Central banks were also closely watched, with interest-rate announcements through the week from the Federal Reserve (Fed), the Bank of England (BoE), the Swiss National Bank and Norges Bank. The week started on risk-off mode as investors tried to establish the scale and impact of UBS’s acquisition of Credit Suisse. There were nerves around the AT1 market1 as Swiss regulators ripped up the capital structure rulebook.
Markets did gradually find a footing through the middle of the week; however, there was time for one last wobble before the week was out, as markets sold off on Friday on fears around banks’ exposures to commercial real estate. Deutsche Bank was one of the key banks to be hit, although it wasn’t all that clear why.
The MSCI World Index closed the week up 1.4%, while regionally, the S&P 500 Index closed up 1.4%, the STOXX Europe 600 Index closed up 0.9%, whilst the MSCI Asia Pacific was up 1.4%.2
Bank of America’s “Flow Show” report threw out another set of interesting data points last week, pointing to further risk-off sentiment. The inflows to money market funds continued last week with US$142.9 billion going into cash, the largest inflow since March 2020.3 That is now the fifth consecutive weekly inflow into cash and increases global money market fund assets to a record US$5.1 trillion.4
The BofA report also noted we have just seen the largest six-week inflow to US Treasury funds ever, totalling US$29.3 billion, and outflows from investment-grade bond funds totalled US$4.3 billion, the largest outflow since October 2022.5 Unsurprisingly, the report also showed that market sentiment has become more bearish.
Central banks raise rates again
Wednesday’s Fed meeting was a focal point last week. There was plenty of debate heading into the event as to whether the US central bank would pause rate hikes given the recent questions around the stability of the banking sector. The market expectation was for another 25 basis-point (bp) hike, and that is what the Federal Open Market Committee (FOMC) delivered. As has become standard language, Chair Jerome Powell reiterated that further hikes may be needed if inflation remains stubborn. However, he warned that recent events in the banking sector were creating uncertainty and would potentially cause a tightening in credit conditions. The Fed’s “dot plot” of forecasts was left unchanged, with a terminal rate of 5.125%. Also, the inflation outlook was lowered for 2023, with officials now expecting an inflation rate of 3.3% by the end of the year versus 5.4% in the last reading. The market is now pricing in a Fed rate cut as early as July.6
Comments from US Treasury Secretary Janet Yellen also garnered attention last week. Earlier in the week, Yellen had attempted to calm nerves by stating that the US government would intervene if required to protect regional, community banks. However, later in the week, further comments from Yellen triggered a risk-off move when she rejected a broad increase in Federal Deposit Insurance Corp. (FDIC) deposit insurance.
Markets then turned to the BoE and the Swiss National Bank policy meetings. Given the turmoil within the banking sector emanating from the demise of Silicon Valley Bank (SVB) and Credit Suisse, and with consideration given to the resilience of inflation levels in the United Kingdom, there was room for a surprise from either or both. Firstly, on Thursday morning the Swiss National Bank hiked rates 50 bps as expected, and refused to rule out more rate hikes in the foreseeable future. Policymakers also noted that they are prepared and willing to intervene in currency markets if required. The statement continued with the hawkish tone, with strong second-round inflation effects noted. Norges Bank also raised rates an expected 25 bps on Thursday morning.
Late in the day on Thursday, focus shifted to the BoE, as the UK central bank continues to fight to bring down inflation from record levels. The February UK Consumer Price Index (CPI) report was released on Wednesday and showed prices rose 10.4% year-over-year vs. 10.1% in January. Price increases in restaurants and hotels, food and non-alcoholic beverages and clothing and footwear divisions drove the increase. This hot CPI print locked in market expectations for a 25-bps hike—and that’s what we saw from the BoE.
Unsurprisingly, the BoE’s statement noted that if there is evidence of more persistent inflationary pressures, then further tightening will be needed. Whilst the February CPI print would have been a disappointment to the committee, wage growth has slowed in the last two months, so assuming inflation comes down in the coming months, so too will wage demands. Clearly, there is still more work for the central bank to do—meaning, expectations could quite easily shift around ahead of the next couple of meetings.
Deutsche Bank in focus, as corporate real estate (CRE) concerns bite
European bank stocks were hit on Friday, with Deutsche Bank in focus given its exposure to CRE and its large derivatives book.
How worried should we be? We don’t have a crystal ball, but if one takes a step back and looks at the fundamentals of the bank, they look solid, with capital ratios at their strongest levels since 1997, robust liquidity coverage ratios, strong profitability and cash reserves.
With Deutsche Bank selling off, focus has also shifted to the European banks, as investors question where else there is exposure to the CRE market.
Week in review
European equities closed another eventful week higher despite a late selloff on Friday. Market volatility rose, with the V2X hitting its highest level since late September early on Monday morning.7 Focus at the start of the week was on UBS’ acquisition of Credit Suisse and the impact the deal might have. All eurozone and UK banks came under the microscope too, as investors sought assurances regarding their exposures in the event of insolvencies. As noted above, central bank action was in focus through the middle part of the week.
Something we have become used to of late is large sector performance divergence, and last week was no different. The theme of quality/defensive outperforming cyclical/weak balance sheet continued last week. Technology and defensives outperformed, as investors flocked to the recent hiding places. Personal and household goods, as well as food and beverage, were among the outperformers. Technology stocks also rose. Real estate stocks lagged on the week, as concerns around credit conditions gripped markets. Bank stocks also struggled as the fear of contagion in the banking sector continues.
As noted, UBS’ acquisition of Credit Suisse was the main headline at the start of the week. However, the market was focussed on the detail that holders of Credit Suisse’s AT1 bonds would see their investments zeroed, wiping out around US$17 billion.
The Swiss regulators effectively re-wrote the rules on capital structure, with shareholders receiving better protection. Yet, equity holders also suffered losses, with the deal priced at a significant discount to the previous Friday’s close. The concern was that this deal would set a precedent for the rest of the sector and that AT1s would go through some notable repricing to reflect this risk. This led to statements from the European Union and UK banking officials that clarified their rules around capital structure. The European Banking Authority and the BoE released statements noting that equity holders would bear losses before holders of AT1s in the event of insolvency. This calmed market jitters, and the sector began to stabilise.
Last week was another interesting and stronger week, as the FOMC voted to increase its policy rate target range 25 bps to 4.75%-5.00%, representing the ninth consecutive rate hike, and the highest level since August 2007 (5.25%). Notably, the committee expressed caution about the recent banking crisis, acknowledging that the crisis will constrain bank lending and weaken the economy. Whilst the committee indicated that rate hikes were nearing an end, it noted that some policy firming may be appropriate to attain a stance of monetary policy that is sufficient to return inflation to the 2.0% medium-term inflation target.
Futures markets ended the week pricing in a 98.2% chance that rates would end the year lower, with a 94.8% chance that cuts would start this summer.8
US stocks edged higher as investors welcomed dovish remarks from Yellen. The major benchmarks varied widely as the banking industry jitters and recession worries weighed on value stocks and small-caps, while large-cap growth stocks benefited from falling rates. Accordingly, the small-cap Russell 2000 Index closed the week only up 0.52% versus the NASDAQ’s gain of 1.97%. Looking at the sectors, real estate was the biggest loser on the week given concerns over the stress in the regional banking system. Home entertainment stocks gained amidst positive news regarding Microsoft’s Activision deal as regulators softened their concerns around the tie-up. Auto stocks surged after Moody’s rated Tesla full investment grade. Contagion risks across US regional banks last week drove investors out of the sector at the fastest pace since Russia’s invasion of Ukraine.
On the macro front, jobless claims came in near five-decade lows, and on Friday, the US February Composite Purchasing Managers Index (PMI) came in stronger-than-expected at 53.3. This picture of economic resilience may indicate that interest rates may remain “higher for longer” than many predict.
Oil futures settled lower Friday but were higher on the week overall on hopes the Fed has reached the end of its tightening cycle. However, the price of crude oil remains on track for its steepest first-quarter drop since 2020 on worries over a potential US recession, continued strong Russian oil flows despite Western sanctions, and strikes at refineries in France. One of the biggest risks to the oil market is tighter credit, which could constrict global oil demand.
Asian markets ended last week in positive territory, with the MSCI Asia Pacific Index up 1.36%. Strong earnings from Tencent helped boost Hong Kong’s Hang Seng Index.
In mainland China, equities ended the week slightly higher. There was limited macro data, but Chinese Industrial Profits fell 22.9% in Jan/Feb year-over-year. The report noted: “Even though industrial production rebounded, market demand hadn’t recovered completely.”
Elsewhere, it was seen as encouraging for the tech industry that Jack Ma, Alibaba founder, returned to mainland China for a public appearance. Ma has been out the public eye since his criticism of authorities led President Xi Jinping to halt the Ant initial public offering in 2020. That said, there are still concerns around China’s crackdown on corporates.
On the geopolitical front, there was little to improve China’s strained relations with the West after President Xi’s visit to Moscow. Xi referred to Russia as it’s “friendly neighbour”.
In Japan, inflation data was in focus as the latest CPI report came in at +3.3%, in line with consensus expectations. Lower energy prices largely drove the deceleration, as government energy subsidies fed into the data. Japanese banks stabilised somewhat, yet still drifted lower last week. This follows steep declines the prior week on the back of the SVB situation.
Macro week ahead highlights
Euro-area headline inflation is expected to drop sharply in March because of large base effects from the energy category, but will it ease the European Central Bank’s (ECB’s) concerns over persistently high underlying price pressures? We aren’t so sure. The ECB’s release of data on monetary developments will also be more closely monitored. The dearth of credit is creating a risk that higher borrowing costs could prevent a rebound of the economy this year.
On Tuesday, the US Senate Banking Committee will hold the first hearing on the failures of SVB and Signature Bank. A House financial services hearing follows on Wednesday.
Monday 27 March
- Euro-area credit data
- Germany Ifo Survey
- Sweden Trade Balance
- UK CBI Retailing Reported sales
- US Dallas Fed manufacturing survey
Tuesday 28 March
- UK Nationwide House Price Survey (28 March–3 April)
- France Business & Manufacturing Confidence
- Italy Consumer & Manufacturing Confidence
- US Merchandise trade balance & Retail inventories
- US FHFA home prices
Wednesday 29 March
- Norway Retail sales w/auto fuel
- Germany Consumer Confidence
- France Consumer Confidence
- Sweden Consumer & Manufacturing Confidence
- UK Consumer Credit & Mortgage Approvals
- US Pending Home Sales Index
Thursday 30 March
- Spain HICP Inflation
- Germany HICP Inflation
- Italy Unemployment Rate
- Italy PPI
- Eurozone Consumer Confidence
- US GDP & Jobless claims
Friday 31 March
- France HICP Inflation
- Italy HICP Inflation
- Italy Industrial sales
- Euro-area Flash CPI Inflation
- Netherlands CPI
- UK GDP & CA Balance
- Germany unemployment change
- Spain current account balance
- US personal spending
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1. An AT1 is a form of Contingent Convertible (CoCo) bond which a bank struggling financially does not have to repay.
2. Indices are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.
3. Source: Bank of America, Bloomberg. As of 23 March 2023.
6. There is no assurance that any estimate, forecast or projection will be realised.
7. The Euro STOXX 50 Volatility Index (V2TX) measures implied volatility of near term EuroStoxx 50 options, which are traded on the Eurex exchange. Indices are unmanaged, and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future performance.
8. Source: CME FedWatch, fed funds futures market. There is no assurance that any estimate, forecast or projection will be realised.