Financial markets are still digesting the implications of Silicon Valley Bank’s (SVB) demise which has now been swiftly followed by Credit Suisse. As central banks cool economic activity by raising interest rates there are inevitably casualties along the way. Markets are pricing this as a sign we’re getting closer to the end than the beginning of this rate rising process, which has been positive for bond markets. However, equity markets have suffered across the board with the Banking sector particularly so.
Credit Suisse has been in the spotlight since 2021 when they faced a $5.5 billion loss on the default of Archegos (a large US family office). Since then, they have faced outflows of both investors and depositors and raised capital in December to shore up their balance sheet.
Last Wednesday (15th March) the Saudi National Bank, one of Credit Suisse’s largest shareholders, made the unusual announcement that they would not provide further equity to the Swiss bank, due to potential regulatory issues but none the less leading to a sharp fall in the share price – not atypical behaviour in these sorts of challenging markets.
The Swiss Central Bank’s pledge to provide liquidity to Credit Suisse turned out to be insufficient to calm market nerves, with the bank having been acquired by its Swiss rival, UBS, over the weekend.
So, the question now is whether we should be concerned about the health of the financial system in general? The critical point is that the financial system is in a very difference place when compared to the 2008 Financial Crisis. For example, the US arms of the all the major European banks sailed through the Federal Reserve’s annual “stress tests” last year, ensuring that they had enough capital to weather a severe economic shock.
In both the cases of Silicon Valley Bank and Credit Suisse, there were some poor management decisions that created a crisis of confidence from which it was impossible to recover. With regulators and central banks demonstrating they will do whatever it takes to maintain financial stability. It is possible, however, that banks and investors will adjust their lending, which could result in tightening financial conditions.
Our view is that the last two weeks are a further example of the market volatility we should expect to continue as inflation remains high and central banks continue to tighten monetary policy. While volatility is concerning, it is important to remember that investing rewards long-term holders – success is achieved through time in the market, not market timing.
We’ve been anticipating this environment, and it is one of the reasons we’ve kept a relatively cautious investment stance into 2023.
Portfolio resilience has been a focus for the last 18 months, with a preference towards higher quality companies that are cash generative. EQ Portfolios have an underweight exposure to the banking sector vs global and UK equity indices and where we do have investment in financial businesses, they are more focused in less cyclical parts of the market like insurance, exchanges and payment companies.
Regarding Credit Suisse, the EQ Positive Impact and Climate Action Portfolios have zero exposure to the Swiss bank, and the EQ Future Leaders have a very limited exposure, for example 0.03% for the balanced risk profile.
We continue to remain conservatively positioned though note that the Office for Budget Responsibility stated in this week’s UK budget that it expects inflation will fall to 2.9% by the end of the year. We would like to see further evidence of disinflation in the UK and globally before our outlook begins to turn more positive.