Another week, another bank?

A good week for

• European equities rallied in sterling terms, leading equities higher
• Oil enjoyed a c. 3% bounce in US dollar terms

A bad week for

• The US dollar weakened c. -0.6% on a trade weighted basis
• Sterling weakened against the euro and the yen, falling c. -0.4%

Banks

For a third week running, financial sector stocks faced significant volatility. In the same week that Swiss bank Credit Suisse was taken over by its rival UBS, other European bank stocks suffered notable share price declines, with Deutsche Bank shares falling by as much as 13% last Friday before recovering a little. This reflects greater concern as to the health of the European banking sector, in the wake of rapid monetary tightening. In 8 months, the European Central Bank has increased the main refinancing rate from 0% to 3.5%, with more tightening expected. Deutsche Bank’s share price has likely suffered given the bank’s recent history of controversy. However, unlike Credit Suisse, Deutsche Bank reported a profit in the final quarter of 2022, and has a healthy liquidity coverage ratio, suggesting it could absorb sudden cash outflows. On Friday, German Chancellor Olaf Scholz defended Deutsche Bank, saying it had "thoroughly reorganised and modernised its business model" and was "very profitable".

US banks

Back in the US, the failure of Silicon Valley Bank (SVB) raised questions around the cap on deposit insurance. Currently, the Federal Deposit Insurance Corporation protects deposits up to a value of $250,000 per depositor. In the case of SVB, many of its clients’ deposits were larger than the cap, meaning they were largely unprotected. This was likely a factor in the rapid rise in deposit withdrawals. Some US lawmakers have supported the case for raising the cap, which could help smaller regional banks compete with larger banks, which are likely to have greater capital buffers. However, Treasury Secretary Janet Yellen last week confirmed that across-the-board deposit insurance was not under consideration. This statement caused regional bank shares to fall. Broader deposit insurance risks increasing moral hazard, so recent stress on the bank sector is expected to lead to tighter credit conditions, as well as tighter bank regulation.

US monetary policy

Despite stress in the banking system, the US Federal Reserve (Fed) pressed ahead with a further rate hike, raising rates by 0.25%. Despite the statement referring to "some additional policy firming" as being appropriate, economists have largely pared back their forecasts, now expecting only one further rate hike in this cycle. This would see rates peaking at 5.25%, with futures prices indicating cuts are expected from the summer onward. In his press conference, Fed Chair Jerome Powell confirmed that events in the banking system “are likely to result in tighter credit conditions for households and businesses” which could weigh on the economy, though “it is too soon to determine the extent of these effects and therefore too soon to tell how monetary policy should respond.”

UK monetary policy

The Bank of England (BoE) also raised interest rates by 0.25%, with two committee members voting to leave rates unchanged. As in the US, rate expectations have been paired back in the wake of bank volatility, despite stronger economic data. Indeed, the meeting minutes suggested that BoE economic forecasts have been upgraded, with the extension of the Energy Price Guarantee announced in the budget expected to prevent real disposable income from contracting this quarter. The minutes also emphasised the health of the UK banking sector, judging that the “UK banking system maintained robust capital and strong liquidity positions, and was well placed to continue supporting the economy in a wide range of economic scenarios, including in a period of higher interest rates.”

Gold

One beneficiary of recent market turmoil has been gold. Year to date, the gold price has risen c. 9% in US dollar terms, and has tested a new all-time high of $2,000 per ounce. Gold is often regarded as a safe-haven asset, which makes it attractive in times of economic uncertainty. The expectation that monetary tightening will likely end soon has likely also helped. Rising interest rates mean that bonds offer higher yields, making gold (with a yield of 0%) less attractive. A weakening of the US dollar would also help, given that gold is priced in US dollars.

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