THE EXPERT’S VIEW FROM ALGEBRIS INVESTMENTS

‘Assuming the economic impact is relatively contained, we do not see a clear read-across (from SVB), particularly for the larger US and European banks, for several reasons.

Large banks are subject to more comprehensive and thorough regulation. For instance, in Europe, banks are limited in how much rate mismatching they can take on their held-to-maturity bond portfolios, due to Basel 4 regulations. This means that they will not face the same steep negative equity position that SVB found itself in with its deeply underwater securities book.

Hence, the average European bank has losses of just ~5% of tangible equity, compared to the 124% that SVB showed as of year-end.

‘Further, European and large US banks must deduct unrealised losses on securities accounted at fair value (i.e., marked to market on a quarterly basis, in contrast to held-to-maturity) from their regulatory capital.’ their lending criteria making it harder for fledgling companies, which are notorious for burning through cash before they generate a profit, to borrow money.

Another effect is investors are likely to want to put a bigger discount on assets held in venture capital funds and potentially on private assets in general to compensate them for what they perceive to be increased risk. That doesn’t bode well for investment trusts invested in private markets.

WHAT DOES IT MEAN FOR INTEREST RATES?

As well as prompting a sell-off in bank stocks around the world, the collapse of SVB has spurred frantic buying of government bonds as investors look to reduce their risk exposure in favour of ‘safe’ assets.

That in turn has led to a steep decline in bond yields and in market expectations for interest rate rises by the Federal Reserve and the Bank of England over the next couple of months.

Whereas traders were worrying last week that Fed chair Jerome Powell was ready to raise interest rates faster than they had anticipated, this week all bets seem to be off.

Instead of a 50 basis-point hike, economists at investment bank Goldman Sachs now expect the Fed to leave interest rates unchanged on the next rate decision day (22 March) despite the bank’s primary aim being to rein in inflation, not alleviate strains in the financial sector.

While SVB may well have been an outlier, with investors worried about possible contagion due to unrealised bond losses on banks’ balance sheets and potentially a broader financial crisis, many observers are arguing the Fed should take its time to assess the impact of the bank’s collapse and allow sentiment to recover.

SHOULD I SELL ALL MY SHARES?

While the news around SVB has caused shockwaves across global stock markets, we do not see a reason to panic and sell shares.

Admittedly there is now a heightened risk of tighter regulation among banks which means investor sentiment could temporarily remain poor towards the sector. That will put pressure on banks to provide reassurance they have strong balance sheets and aren’t in trouble.

Most people hold shares in banks for generous dividends and we do not expect payouts to be cut from the UK banking stocks in the wake of the SVB crisis.

THE EXPERT’S VIEW FROM ING

One of the reasons that the Federal Reserve could deliver fast and impactful interest rate increases over the past year is that the system could take it.

Equity markets and bond markets may have crumbled, but as long as the system was intact the Fed could continue to tighten.

The SVB saga as a standalone mutes the ability of the Federal Reserve to over-tighten from here, as there is an implied threat to the system should the Fed be seen to be overdoing it.

Risk barometers like FRA/ OIS and the cross-currency basis have spiked, but not dramatically so. This suggests the system has had a wobble but is absolutely not under immediate threat.

The down move in the yield curve points to a material reduction in the likelihood that the Fed overdoes it on rate hikes.

We argue that what equity markets do here is not that relevant. They can come under pressure, but the really important thing to monitor is the financial system. If that were to be materially threatened, the Fed could not hike at all.

We only have to look at the global financial crisis and the pandemic as templates that showed the Fed is single-minded when the system is under threat, and that is to cut rates and ease policy, significantly.

We are not at that point, and we most likely won’t get to that point. But if the inflation data refuses to dampen in a material fashion it places pressure on the Fed to make a tough choice. The simplest choice is to stick with a 25 basis point rise and let the market calm down of its own accord in the weeks and months ahead.