Wednesday, November 22, 2023

Market Commentary: A Battle of Fire and Ice

Markets & EconomyMarket Commentary: A Battle of Fire and Ice

The Fed is stuck between trying to cool inflation and support the financial system. It’s a battle of Fire and Ice. The financial markets were volatile last week as investors parsed the risks around bank closures, central banks offered additional protections for depositors, and regulators took a harder look at bank balance sheets.

On the heels of the first three bank failures in years, issues spread across the pond last week as Credit Suisse Group AG became the latest banking institution to make headlines over solvency concerns. While this sounds concerning, we should take into account that Swiss bank was a $3 stock two weeks ago and has been a laggard, down more than 90% from its all-time high, well before trouble started brewing.

So is it really a surprise? I’m not so sure.

Weekly Highlights

  • The banking crisis continued last week, but signs of contagion are decreasing
  • Credit Suisse was the latest bank to falter, but UBS is expected to buy
  • The banks in trouble had unique issues, while larger banks are still in good shape
  • Stocks hit major lows in March and could reach them again
  • April is typically a strong month
“For much of last year, volatility was elevated, but the risks were somewhat ‘known’ (chiefly inflation and recession)…Now, the introduction of the banking crisis has created a new unknown, which could ultimately mean a sharper increase in volatility (if worse than expected) or a quick reprieve (if fears prove unfounded),” opined a source cited by Nicholas Jasinski of Barron’

Unknown risks create uncertainty, and you know what they say about markets and uncertainty.

Yields on Treasuries dropped sharply as investors sought opportunities, they perceived to be safe, reported Lawrence C. Strauss of Barron’s. The yield on the two-year U.S. Treasury dropped from 4.6 percent to 3.8 percent, and the yield on the 30-year U.S. Treasury fell from 3.7 percent to 3.6 percent.

While Treasuries are considered to be quite safe, one lesson from recent events is that there are circumstances in which even safe-haven investments may produce a loss. For example, in general, bonds expose investors to interest-rate risk. When interest rates rise, the value of bonds falls. If a bondholder must sell a bond before it matures, the seller may realize a loss.

In stock markets, the bearish sentiment was high. Almost half (48.4 percent) of participants in the AAII Survey of Investor Sentiment were bearish. That’s well above the historic average of 31.0 percent.

In contrast, just about one-fifth (19.2 percent) were bullish. That’s well below the historic average, which is 37.5 percent. The Survey of Investor Sentiment is widely considered to be a contrarian indicator and, in general, the market moves in opposition to contrarian indicators.

The Markets

Despite investor pessimism, the Standard & Poor’s 500 Index and Nasdaq Composite finished the week higher, while the Dow Jones Industrial Average finished slightly lower. In fact, it was one of the largest weekly outperformances for the Nasdaq versus the Down since the early 2000s

Markets are likely to remain volatile this week. If you find yourself wondering how short-term market fluctuations may affect your long-term financial goals, get in touch. We’re happy to talk about any concerns.

Is my money safe?

While banking is not that simple or straightforward, programs are in place to protect depositors.

For example, the Federal Deposit Insurance Corporation (FDIC) insures up to $250,000 in qualifying accounts at FDIC-insured banks per depositor. If you have accounts at multiple FDIC-insured banks, each account may be insured up to the maximum. (In many cases, depending on how various accounts are titled, more than $250,000 may be insured at a single FDIC-insured institution.)

Last week, the Treasury Department, the Federal Reserve, and the FDIC augmented FDIC protections by introducing the Bank Term Funding Program (BTFP). The program offers one-year loans to banks, savings associations, credit unions, and other eligible depository institutions.

Participants in the program, “can pledge their assets such as bonds and mortgage-backed securities at par, or the value at which they were originally issued, instead of market value, giving banks a greater borrowing capacity since bond prices have fallen” reported Karishma Vanjani of Barron’s. The measure makes it possible for banks to avoid selling long-dated bonds at a loss when depositors withdraw money.

Federal Reserve officials indicated the BTFP provides enough financial support to protect all of the deposits in the United States, reported Craig Torres and Christopher Condon of Bloomberg.


In this section, we break down corporate earnings call transcripts from CEOs and executives of global organizations.

The world has changed a lot in the last week. Markets are still trying to understand the impact of the run on Silicon Valley Bank. It’s not clear how wide the contagion will spread. For now, the consumer seems to continue to spend, so the Fed is stuck between trying to cool inflation and support the financial system. How will the Fed balance these dynamics?

Let’s break this down…

The world has changed a lot in the last week

"Yes. I think if you'd asked me this question last week, you get a different answer than what you get today because I do think the world has changed quite a bit in the past 7 days...I would say that the events of the past 24 hours continue to add some of that extra volatility into the mix." - Affirm Holdings, CFO Michael Linford

Markets are still assessing the impact of a classic bank run

“This past week we saw the biggest bank failure in more than 15 years as federal regulators seized Silicon Valley Bank. This is a classic asset-liability mismatch. Two smaller banks failed in the past week as well. It’s too early to know how widespread the damage is. The regulatory response has so far been swift, and decisive actions have helped stave off contagion risks. But markets remain on edge." – BlackRock, CEO Larry Fink
"From our perspective, we have witnessed nothing more or less than a conventional bank run that led to illiquidity because of a fundamental mismatch of duration in assets and liabilities. Low-yielding long-term assets and commitments were underpinned by fairly concentrated overnight funding, which had grown incredibly quickly in recent years. When confidence was shaken and depositors became a herd heading for the doors, the bank failed." - Jefferies Financial Group, CEO Rich Handler

Consumers keep spending despite bank noise

"If you shut yourself up in the room and all you did was look at our numbers…the business has been remarkably stable, right? It's been 43% to 45%, 46% ahead of 2019, almost on a day-by-day, week-by-week basis. And as you saw in February, once again, we had double-digit growth in the U.S. E-commerce growing strongly, card-present growing strongly, debit growing strongly." – Visa, CFO Vasant Prabhu
"We haven't seen a decline in credit scores over the last several months. And so again, very strong…we tend to see a very high correlation between credit quality, the strength of the consumer and employment, right? And employment is very high, unemployment is staying low…generally speaking, our expectation is so long as people keep working that we're going to continue to see a relatively constructive credit environment" – Equifax, CFO John Gamble

It’s a battle of fire and ice

"...this week, in some respects, is indicative of what happens when you're in the throes of that battle between fire and ice. You have the knob being turned to try to fight against inflation. And then the question is, do you stop turning the knob? How hot is the CPI print going to be in a couple of hours? Can the Fed continue to turn the knob to try to get inflationary expectations down? Or given what's happened this week, the reaction function, to higher interest rates, do they need to either slow the knob down or turn the other one? That is this week, which is the fire and ice right before us. And I think it's something we should expect over the next 6 to 12 months." - Morgan Stanley, Co-President, Head of Institutional Securities Group Edward Pick

This could continue for a while

"At this point, I think we should prepare ourselves for the possibility that this new economic reality will continue for many years. Higher interest rates lead to the economy running leaner, more geopolitical instability leads to more volatility, and increased regulation leads to slower growth and increased costs of innovation. Given this outlook, we’ll need to operate more efficiently than our previous headcount reduction to ensure success." – Meta, CEO Mark Zuckerberg


China is coming back on line but maybe not as fast as hoped

"As far as China goes, I think we told you to be cautious about how fast it would recover, and we've been right so far. I think what people don't recognize is that there was a massive reduction in airline capacity through COVID going in and out of China. And it's coming back only slowly. You have to get landing slots. So outbound Chinese travel to the U.S. and Europe will be slow." – Visa, CFO Vasant Prabhu
"We are off to a slower start in China that's playing itself out exactly what we predicted. So I would say nothing new news on that, other than what we had seen and what we thought coming into the first quarter." - 3M, Chief Financial and Transformation Officer Monish Patowala


Financial stress has people looking under the hood again

"I think it is pretty interesting how suddenly everybody was like trying to get under the hood to understand where the money gets parked." – Wise, CTO Harsh Sinha

Some delinquencies are rising

“And what we are seeing is we are seeing some delinquency increases in subprime probably in subprime -- 60-day delinquencies in auto and in card, are up slightly over where they were versus where they were in probably 2019 and have increased slightly over the past several months. So there is certainly seeing some level of stress in that part of the environment” – Equifax, CFO John Gamble

Duration risk is real

"It's funny. It's really interesting. We used to use the word until very recently talk about risky assets, and that was code for credit risk. And I think this past week has been a lesson. And risk is a lot more than just credit risk. Duration risk is a real thing." - Affirm Holdings (AFRM -0.84%↓) CFO Michael Linford


Consumers are under a lot of pressure

"...what we're seeing right now with our customer is the best news we have is that she's still employed. And as we've talked about for many years, that is the single most important factor to her economic health. But we are certainly, as we talk to our customers…we're seeing that she's worse off financially. And it's primarily due to food inflation. And obviously, as you think about how that changes her behaviors, one of the things we're seeing is she's relying more on savings, credit cards, and also borrowing money, quite frankly, from friends" - Dollar General, CEO Jeffery Owen

Strain is causing changes in spending patterns

"...customers are really under a lot of strain. And when you look at on a budget, when you talk to them and ask them, they're making significant purchase decision changes because of the budget -- their budgets. Now so far, fortunately, they still prioritize food. Now they are switching from some branded product to own brands. And as you know, our own brand business had grown double digits the last few quarters. So you see a lot of people tell you they're under a strain. They're more engaged in using coupons, downloading coupons, things that are stretching their budget. You are seeing them switch from eating out to eating at home because you can eat at home for somewhere between 1/4 and 1/3 the cost of going out." – Kroger, CEO William McMullen


Microsoft and Google are starting major AI product integrations

"Today marks the next major step in the evolution of how we interact with computing, which will fundamentally change the way we work and unlock a new wave of productivity growth. With our new copilot for work, we’re giving people more agency and making technology more accessible through the most universal interface — natural language" – Microsoft, CEO Satya Nadella
"We’re now at a pivotal moment in our AI journey. ..Developers and businesses can now try new APIs and products that make it easy, safe and scalable to start building with Google’s best AI models through Google Cloud and a new prototyping environment called MakerSuite. And in Google Workspace, we’re introducing new features that help people harness the power of generative AI to create, connect and collaborate....We’re now making it possible for Workspace users to harness the power of generative AI to create, connect, and collaborate like never before. To start, we’re introducing a first set of AI-powered writing features in Docs and Gmail to trusted testers." - Alphabet (GOOGL -0.53%↓) Google Cloud CEO Thomas Kurian

 Meta is laying off more people

"Overall, we expect to reduce our team size by around 10,000 people & to close around 5,000 additional open roles that we haven’t yet hired. This will be tough & there’s no way around that" – Meta, CEO Mark Zuckerberg

Meta’s data suggests that in-person work is more productive than remote

"Our early analysis of performance data suggests that engineers who either joined Meta in-person and then transferred to remote or remained in-person performed better on average than people who joined remotely. This analysis also shows that engineers earlier in their careers perform better on average when they work in-person with teammates at least three days a week. This requires further study, but our hypothesis is that it is still easier to build trust in-person and that those relationships help us work more effectively." – Meta, CEO Mark Zuckerberg

Consumer electronics markets have remained weak in Q1

“...we saw a pretty steep roll down in the fourth quarter with consumer electronics. We felt that would continue into the first quarter. It's pretty much played itself out, at least what we are seeing 2 months in. What we are seeing is smartphones down somewhere between 10%, TVs as high as down 30%. Sequentially, you've also seen semiconductors down mid-single digits. Auto, our auto business, which also has an impact of electronics because of our display and other electronic components we supply also down mid-single digits.” - 3M, Chief Financial and Transformation Officer Monish Patowala

Industrials and Transport

FedEx is seeing steep volume declines and laying off people

“...volumes declined by a low double-digit percentage across all segments partially offset by higher yields at Ground, U.S. Domestic Express and Freight. This led to a year-over-year revenue decline. While revenue fell across all segments, the decrease was most pronounced at Express…We will continue to aggressively manage headcount including attrition to align our teams with the network changes underway. By the end of this fiscal year, we expect U.S. headcount to be down roughly 25,000 year-over-year." - FedEx Corporation, CEO Rajesh Subramaniam

There may be softening trends in air travel

"While all months of 2023 are expected to produce unit revenue significantly above the corresponding months in 2019, the Company is observing new seasonal demand patterns, with lower-demand months such as January and February 2023 growing less than higher-demand months. As a result of this seasonality shift and the higher completion factor, the Company now expects total revenue per available seat mile ("TRASM") for the first quarter 2023 to increase between 22% to 23% versus the first quarter of 2022, below its original guidance of up approximately 25%" - United Airlines (UAL 0.02%↑)

Automobile supply and demand should balance in Q3

"...demand is slowing down and the supply is improving. So I expect Q3, where demand and supply will meet and that better supply that will be true for all of the companies." – Volkswagen,  CFO Arno Antlitz

Semiconductor availability should get better this year and next for automakers

"We saw 660,000 less vehicles built in Q4 regarding chip shortages than was planned at the beginning of the quarter…Chip availability is improving somewhat, with additional capacity that's come online, more meaningful capacity comes online throughout this year and next, which will further augment vehicle build levels and satisfy the deep backlog needed to refill the pipeline of inventory on dealer lots…inventory levels in North America have settled in around 36 or 37 days over the last few months" – Linamar, CEO Linda Hasenfratz
"Looking a little bit ahead, what's happened in our industry? The industry was basically supply-side driven for 2 or 3 years. We had not enough semi-supply. We're still restricted with the semi supply, but that semi supply goal will improve throughout the year....we expect that in 2023, the structural shortage of semiconductors will improve and the supply with raw materials and logistics will gradually stabilize." - Volkswagen ($VLKAF) CFO Arno Antlitz

Materials & Energy

There’s low investment in oil and gas

"Given that we anticipate oil and gas will remain essential for the foreseeable future, the risks of underinvestment in our industry are real, including contributing to higher energy prices...We don’t see enough investment getting into the markets right now. We encourage the industry, policymakers, investors… to avail additional investment to really increase the amount in the sector, so that we can meet future demand” – Aramco, CEO Amin Nasser

Energy costs in Europe normalizing but still 3X historical levels

"Both gas and electricity prices have backed off the exceptional highs that were seen late summer last year, but are notably still above triple historical levels. We're seeing a mixed level of impact in our plants on the energy side, given some plants in some regions have locked in some energy contracts, before levels really escalated, which have now expired. Other plants in regions were on the spot last year, and therefore, are seeing an improvement to energy costs." – Linamar, CEO Linda Hasenfratz

There’s a massive undersupply of batteries

"Australia has all the minerals in the world you need for batteries, and right now, it’s like selling water in a drought. To put it into perspective we could open one gigafactory a month for six years and not meet the current undersupply of batteries." - Energy Renaissance CEO Brian Craighead

In Conclusion

March is well-known for major market lows and volatility. March hit major lows in 2003, 2009, and 2020, amidst negative headlines and sentiment.  While the first half of March is often dicey, the second half of the month tends to see more green. Better times could be ahead if history is a guide. We think this could be possible.

Tom Martin, WMCP®
Tom Martin, WMCP®
Tom Martin, is a financial advisor at Vaylark Financial Services, based in Hartford, Connecticut. He practices in the area of private wealth management offering comprehensive financial planning, custom investment portfolios, tax reduction strategies, risk management, estate and legacy planning, as well as advises on executive compensation and business owner profitability.

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Tom Martin, is a financial advisor at Vaylark Financial Services, based in Hartford, Connecticut. He practices in the area of private wealth management offering comprehensive financial planning, custom investment portfolios, tax reduction strategies, risk management, estate and legacy planning, as well as advises on executive compensation and business owner profitability.

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