WisdomTree Minds on the Markets
Minds on the Markets
Minds on the Markets
ARCHIVE: April 17, 2023
What Have We Learned
While it’s still too early to see what, if any, effects the economy endured from the banking turmoil last month, there are other avenues besides economic data where investors can garner some clues.
Indeed, information on broader financial conditions, the funding markets, credit spreads and banking data offer investors meaningful insights as to what has transpired within the last four to six weeks in a post-Silicon Valley Bank (SVB) world. We’ve already highlighted in one of our recent publications, “Contending with the Bank Walk,” the precipitous decline in bank deposits, but we also wanted to provide additional awareness on some of these other key areas investors should be watching.
One of the major concerns stemming from the regional banking turmoil was that financial and/or credit conditions would tighten to the point where they could not only tip the economy into a recession but that, potentially, the downturn could be more formidable than in a pre-SVB universe. According to the Chicago Fed Adjusted National Financial Conditions Index, the tightening has definitely taken place. This gauge utilizes “zero” as a neutral vantage point, whereby financial conditions are neither tight nor loose. While some narrower levels were beginning to be observed in the first week of March, this trend gained some visible momentum post-SVB, with the existing negative level inching closer to zero (-.09) for the week of March 24. Since then, the reading has stabilized and actually widened a bit to -.13 for the first week of April. Interestingly, the overall level is still in slightly negative territory.
Along the same lines, U.S. credit spreads also revealed a tighter credit setting in the immediate aftermath of the banking headlines. Both investment-grade (IG) and high-yield (HY) differentials increased, but the widening was relatively orderly. In fact, as of this writing, HY spreads have retraced about 45% of this widening, while on the IG side, the re-narrowing has been less notable.
That brings us to the proverbial “where the rubber meets the road” aspect, the funding markets. In times of stress, the funding arena is arguably the most important indicator to follow. A key gauge to watch on this front is the interest rate swap market, or a measure for exchanging fixed and floating cash flows. As to be expected, the funding markets revealed some visible strain at the outset of the banking woes, with the spread rising to its highest reading since the COVID-19 lockdown in March 2020. In the subsequent weeks, the spread has come down, but it is still above its pre-SVB readings. That being said, the spread through mid-April is not necessarily out of the ordinary, and perhaps more importantly, it has stabilized, no doubt a function of the Fed’s aggressive response early on by introducing, among other things, the Bank Term Funding Program (BTFP).
One of the developments that has captured the lion’s share of attention is the rapid pace of the decline in bank lending during the last two weeks of March. According to Federal Reserve data, total loans plummeted by nearly -$105 billion during this period. Commercial & Industrial lending was responsible for -$68 billion of the overall decline, while Commercial Real Estate fell more than -$35 billion.
In what could be viewed as a sort of sign of good news, the banking turmoil headlines have recently been rendered more to back-burner status. In other words, the headlines are no longer “screaming” on this front, and the markets’ attention has seemingly reverted back more to the fundamentals and, of course, the future path for the Fed’s monetary policy.
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