Mark Lister, 24 March 2023

There are long periods where very little seems to happen across financial markets, and then there are times when everything happens all at once.

The last couple of weeks have been a bit like that.

Over the last ten days we've seen some of the biggest moves in decades. Much of this has been in fixed income and bond markets, rather than in shares.

On the Monday before last, the US two-year Treasury yield fell by 32 basis points, which is the biggest one-day fall since the 9/11 terrorist attacks of 2001.

The swings in global bond markets were so big, we saw Bank of America's MOVE index of US Treasury volatility reach its highest levels since 2008.

In contrast, sharemarkets have been remarkably subdued. The VIX index, which reflects volatility in the US S&P 500 index, didn’t even get to the levels we saw last year.

In the week after the Silicon Valley Bank news broke, the S&P 500 was up slightly while the NASDAQ index finished higher than it was before that.

Ironically, the banking crisis we've seen play out on both sides of the Atlantic could be a positive for shares, at least in part.

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A key reason for this is because the events of the last fortnight could slow economic activity a little, helping central banks in their inflation fight and reducing the need for further interest rate hikes.

Bank funding costs could increase on the back of this, while lending standards could rise. This has historically been a reliable leading indicator for credit growth, which has a big impact on economic growth overall.

Lending standards have been tightening anyway, and the events we've seen this month could intensify this trend.

That doesn’t mean the inflation problem will immediately go away, but a sharper decline in activity would speed that process up too.

Oil prices have slumped almost 15 per cent this month, with US crude trading below US$70 a barrel. That’s the lowest since December 2021, more than 45 per cent below last year’s high of US$124.

If this bout of risk aversion does indeed assist the world’s central banks, we might see a slightly lower path higher for interest rates in the months ahead.

Three weeks ago, financial markets were picking three or four more rate hikes to come in the US this year, but today they believe the Federal Reserve is close to done.

It could be a similar story for our own Reserve Bank, which meets the week after next. While another small hike in the Official Cash Rate is likely, we might be closer to a pause than we think.

A key question many are asking is whether the events of the past fortnight are the beginnings of a 2007/08-style credit crunch, or if they’re merely a symptom of the dramatic rise in interest rates.

I suspect it’s the latter.

There are unique aspects to each of the entities which have got into trouble.

Silicon Valley Bank was highly concentrated in the tech-startup sector, while Signature Bank had waded into crypto. Both had taken on too much interest rate risk, while Credit Suisse has been plagued by mismanagement for years.

President Trump’s 2018 rollback of some GFC-era regulations might’ve also been a factor. Designed to free up smaller US banks from the tougher rules their largest counterparts faced, this might’ve also led to riskier behaviour.

New Zealand is quite different, and we needn’t worry about the health of the big four Australian banks or Kiwibank (which is still government-owned).

Our regulatory environment is robust, the banks have all been required to hold more capital in recent years, while the liquidity and funding backdrop has improved since the GFC days.

Even if this isn’t a repeat of 2008, I doubt that SVB and Credit Suisse will be the last casualties of the sharp tightening in monetary policy.

Whenever interest rates rise as rapidly as they have in the past 12 months, sooner or later someone, somewhere finds themselves into trouble.

In the mid-1990s it was the Mexican crisis, in the early 2000s it was the bursting of the dot-com bubble, and in 2007 it was the US housing market.

This time around it’s been a few crypto operators and some banks that have taken on too much risk.

So far, that is.

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