Join Money Morning Analyst Kiryll Prakapenka and special guests Greg Canavan, Editorial Director of Fat Tail Investment Research, and Ryan Dinse, Editor of Crypto Capital, live as they discuss the current events in the financial markets and what the US bank liquidations mean for Aussie Investors at 10:30am AEDT. Topics covered include gold and its role in this as a monetary signal, interest rates and what the Fed does now, the outlook for stock markets, why these bank collapses have nothing to do with bitcoin, and more. Tune in to gain insight into the chaos, as well as some ways to turn this into an opportunity.
The recent chaos in the financial markets is a difficult situation to navigate, and we want to help you as best we can.
That’s why we are hosting a special livestream to cover the markets THIS MORNING.
The livestream will begin at 10:30am AEDT sharp today. We urge you to join us as we dive deep into the causes and implications of recent market activity.
Don’t miss this special opportunity to get their unique perspective and insight.
We plan on covering:
- What the US bank liquidations mean for Aussie investors
- Responses of gold and Bitcoin
- What the Fed does now
- The outlook for stock markets
- Why these bank collapses have nothing to do with Bitcoin
- The impact of the latest CPI figures from the US overnight
- Whether or not the US government will go bankrupt
To get ongoing insight from our experts, subscribe to Money Morning Australia here:
Rapid hike cycle snags Silicon Valley Bank
I often note that monetary policy acts with a lag.
And Silicon Valley Bank’s failure is a delayed consequence of the US Fed’s rapid rate hike cycle, where, in 12 months, the Fed raised rates by around 475 basis points.
Flushed with client deposits during the pandemic boom, Silicon Valley Bank had more cash than it knew what to do with.
So it parked much of its customer deposits in what it thought were ultra-safe government securities at paltry yields and long maturity dates.
But once the Fed began hiking rates at a historic pace, the value of SVB’s assets plummeted with each passing rate increase.
Coupled with a flighty – and mostly uninsured – depositor base dealing with a market downturn, SVB left itself vulnerable to a run on the bank.
SVB’s failure has led to wider scrutiny of the banking sector since it wasn’t the only institution nursing losses from rising rates. Most US banks have some unrealised losses on the books.
The Federal Deposit Insurance Corporation estimated that the total amount of unrealised losses carried by US banks in 2022 was US$620 billion.
The effect of the Fed’s tightening is starting to be felt across the economy.
Source: FDIC
What is gold telling markets?
Gold’s an important part of the story here as it is a monetary asset. It’s a currency independent of government. Gold responds to changes in fiat currencies, interest rates, and inflation expectations.
This makes it a great asset to focus on in today’s market environment.
Gold looked vulnerable early last week. It fell US$50 an ounce to US$1,813 from Tuesday to Thursday local time.
Then Silicon Valley Bank and Signature Bank went under and the US Government and Federal Reserve had to guarantee all deposits in the system.
As a result, gold soared around US$100 an ounce from the lows.
It did so because the outlook for interest rates changed completely.
Rate outlook rapidly changes
Market yields are way down across the board. The US two-year bond yield plunged more than 100 basis points this week, from 5.05% to below 4%.
It is currently languishing at around 3.90%, despite the latest US CPI data showing sticky core inflation.
The two-year yield is a decent proxy for where the Fed funds rate is headed. The funds rate currently sits at 4.5–4.75%.
In other words, the market is expecting interest rate cuts.
But the Fed is unlikely to deliver those cuts straight away. It meets next week to decide on its next move. The market was initially pricing in a 50-basis-point increase. Not anymore.
What will the Fed do?
In my view, the Fed will now go on hold. How long it stays there will depend on the data. February’s US inflation numbers suggest a long road ahead.
Remember, inflation is a lagging indicator.
After the events of last week and the rising stink around Credit Suisse, it beggars’ belief that the Fed would give much credence to the February CPI print.
But it will.
The Fed is now likely to stay on hold for longer than they should. And if they are really clueless, they might even increase rates again.
If that happens, real rates could start to rise again.
Why would real rates rise? Well, remember the equation:
Real rates = nominal rates – inflation expectations
If the market sees the Fed staying too tight for too long, inflation expectations are likely to fall. That’s because tight monetary conditions cause a recession, which should kill concerns about future inflation.
And if inflation expectations fall, and nominal rates don’t fall as fast (because of the hawkish Fed), real rates will rise.
That would be bearish for equities and gold.
So, it’ll be important to keep an eye on the Fed over the next few weeks and see how real yields respond.
The RBA will be paying attention
Make no mistake, our own Reserve Bank of Australia is paying close attention to recent events.
The RBA has already flagged earlier this month it is closer to hitting pause on rate increases and the jitters across the global banking sector will only bolster its stance.
The RBA is also in a slightly different position to the Fed.
We have a vast swathe of households on variable interest rates who are much more sensitive to rate increases. The RBA’s monetary policy winds its way through the economy quicker than the Fed’s does in the US.
So the Reserve Bank is probably under a bit more pressure than the Fed to pause rate hikes and assess how the economy is responding.
If the Fed does keep rates steady next week, it will be that much easier for the RBA to do the same at its upcoming meeting in April.
Impact on stock markets?
The market’s bets that the Fed will cut rates later this year should come with a warning.
As I wrote here last week, history shows rate cutting cycles are not bullish for markets. Rate cuts will herald recession.
And stocks are now starting to price in a US recession and the declining earnings that come with that.
I think that will continue.
Our market is certainly under the pump, too. The ASX 200 is down 7% from the early February peak.
What does that mean for your investing strategy?
My strategy remains simple. Buy good quality stocks at attractive prices. It’s a market of stocks out there, not a stock market.
One of the stocks on my watchlist has seen its 2024 earnings forecasts slashed by 40% over the past eight months or so. Its share price is down around 40% from the highs. There are plenty of companies out there where earnings expectations have declined sharply, and share prices are well off their highs.
In short, I think the next few months will give you plenty of opportunities to buy quality assets for the next bull cycle.
ASX sectors to watch
In terms of sectors, I think there are a few to watch here.
As I’ve mentioned, one is gold.
Gold has been through a two-year bear market. The Aussie gold index, for instance, fell about 50% from peak to trough, with the trough coming in September last year.
It’s rallied since before correcting but I think gold miners present good opportunity here. A short-term risk is the Fed deciding to continue hiking rates next week. Longer-term, however, gold stocks are looking solid.
Energy is another sector I’d be interested in if markets experience continued weakness. I’m talking coal, oil, and gas.
These commodities remain supply-constrained over the long-term so if we get a short-term demand hit in the form of a global recession, I think that would present a buying opportunity.
Because we will get a recovery and when it comes, the supply won’t be there to meet increased demand.
Finally, I’d look at quality Aussie growth stocks.
A bunch of quality growth stocks on the ASX that have fallen between 40% to 50% from their highs are well worth looking into if you’re willing to hold for a couple of years.
In the end, I think you need to be a real contrarian in this market. The months ahead will be high on panic and bad news. If you can keep your emotions in check, these months will also be high in opportunity.
Regards,
Kiryll Prakapenka,
Analyst, Money Morning