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27 March, 2023 - Well, something finally broke.

"The FED hikes interest rates until something breaks" is a common saying in our profession. Well it seems that something finally broke, as two US banks have already failed and the second largest Swiss bank was acquired for a few cents (per share), over a weekend where a few laws were "loosened" in order to achieve that. The immediate consequences of this mini crisis will be two-fold. First, banks will have to reduce lending to corporations and households in order to preserve liquidity, at least until the storm passes. Secondly, banks will have to raise the interest rate that is being paid to deposits in order to avoid losing clients, which means their profits will be impacted. All in all, equities seem to be the asset class that looks the less attractive compared to bonds and cash, at this stage.

And central banks have now realized that more tightening could result in more pain. With all major central banks having now completed their March meetings after the collapse of the US banks and Credit Suisse, it is now clear that the message is the same. High inflation keeps them nervous and hence they raised interest rates as per the expectations before the crisis. But at the same time they hinted that we are probably near the end, if not already at the end of this cycle of interest rate increases. Nevertheless, the tightening of the lending standards (which is shown in the chart of the week) is equivalent to interest rate increases with respect to the impact on the economy and one can argue that there is no more work to be done by the central banks. Significantly lower economic activity (ie recession) will bring down inflation with it.

The FED raised rates by 25bp to 5%, as expected. According to the new projections of the committee members the terminal rate still stands at 5.10%, which implies perhaps one more increase of 25bp in the early May meeting. Before the recent crisis, markets were expecting that these projections would be revised up to show a 5.50%-5.75% terminal rate. Now, interest rates are expected to be cut in 2024, to about 4%, according to the new projections. The bond markets has already started pricing a much more aggressive rate cutting cycle, which could begin as soon as June. However, Mr. Powell during the press conference pushed back on the notion of rate cuts in 2023, saying that no member of the committee believes that this could be the case.

The Swiss National Bank raised by 50bp its policy rate to 1.5%, as expected and additional rate rises "cannot be ruled out", according to the statement. The SNB also said that it remained willing to be active in the foreign exchange market "as necessary", and the statement highlights that "for some quarters now, the focus has been on selling foreign currency". This means that the CHF will be well supported.

The Bank of England slowed down the pace of tightening and delivered a 25bp hike, to 4.25%. Similar to the last two meetings, there was a split of opinions with 7 members voting for a 25bp hike and 2 members voting for a pause. The forward guidance ("If there were to be evidence of more persistent pressures, then further tightening in monetary policy would be required") remained unchanged, but the tone around the inflation outlook has already turned more balanced/dovish. The Committee acknowledged that the recent inflation data has been stronger than expected in the February projections, but it downplayed the upside surprise.

German and French PMI indices were mixed in March. Manufacturing in both countries was worse than expected and remained below 50, which signals the economic expansion (above) or recession (below). Services, however, moved further higher and remained comfortably above 50. France's Services PMI reached 55.5 from 53.1 the previous month, while Germany's rose to 53.9 from 50.9. It should be noted that these indices were calculated before the recent banking crisis.

Equities managed to recover at the end of the week. Most indices in US and Europe rose by 1.0-1.5% , with the Swiss large caps continuing to underperform (SMI index +0.2%). However, this should change soon, as investors should finally start buying back safety and defensive sectors. European banks managed to recover on Friday from steep losses, which were caused by speculation about the future of Deutsche Bank this time. Healthcare performed better in this environment, given the low valuations that they have dropped to, since the start of the year.

Government bonds had a volatile week, as has been the case lately, but they continue to perform well. The 2-year yield on the US Treasury reached a new low of 3.60%, only to finish the week at 3.75%. As a reminder the yield was above 5% just three weeks ago. The 10-year yield finished the week at 3.40% and the difference between the two has now narrowed to -35bp. This difference was at -100bp only three weeks ago. This move in the yield curve is typical in the period before a recession hits.

Gold managed to climb to 2000$ again, as European banks were under attack. But the improvement in US equities late on Friday pushed traders to take profits and it closed at 1980$ for the week.


Chart of the Week : US banks had been reducing loans even before the crisis.

The above chart shows the net percentage of US financial institutions with respect to whether they tighten their lending standards, or in more simple words whether they offer new loans under very strict conditions. The higher the line is on this chart, the less loans are being given out to companies, which means less economic activity. The current spike (which should be note that it had happened even before the recent banking crisis) is approaching levels last seen in the pandemic, the 2008 crisis and the 2000 internet bubble burst. In all previous instances a recession followed soon thereafter.


• The content of this document has been produced from publicly available information as well as from internal research and rigorous efforts have been made to verify the accuracy and reasonableness of the hypotheses used. Although unlikely, omissions or errors might however happen.

• The data included in this document are based on past performances and do not constitute an indicator or a guarantee of future performances. Performances are not constant over time and can be positive or negative.

• This document is intended for informational purposes only and should not be construed as an offer or solicitation for the purchase or sale of any financial instrument and it should not be considered as investment advice. The market valuations, views, and calculations contained herein are estimates only and are subject to change without notice. Any investment decision needs to be discussed with your advisor and cannot be based only on this document.

• This document is strictly confidential and should not be distributed further without the explicit consent of Kendra Securities House SA.

• Sources: Chart of the Week : Federal Reserve Loan Officer Survey, Cover Image: AXIOS


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