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  • by Smriti Mathur
  • Mar 31, 2023
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This Is Not Another Banking Crisis, Analysts Say — It’s ‘Sentiment Contagion’ Instead

 

Key Takeaways:

Get your popcorn ready, folks, because the financial world is in for a wild ride! The collapse of Silicon Valley Bank, the biggest banking flop since the global financial crisis, has set off a chain reaction of sell-offs and panic. Banking stocks are taking a beating as investors are gripped by a fear of contagion, spreading like wildfire through the industry. 

The S&P 500 Banks index managed to crawl up 3% on Monday, but it's still down a whopping 22.5% for the month of March. Meanwhile, across the pond, the Stoxx 600 Banks index is trying to keep its head above water, closing 1.7% higher on Monday, but still sinking by over 17% this month. It's not looking good, folks.

Just when we thought things couldn't get any crazier, Citi comes in with a verdict: we're in an "irrational market." Well, isn't that just fantastic? We don't even have a clear explanation for Friday's stock price moves, and now we're dealing with a market that's completely off its rocker. Can somebody pass the Tylenol?

But before you go hiding your life savings under the mattress, hold your horses! Despite the roller coaster ride in the banking sector, industry insiders are reminding us to keep our cool. Sure, the situation may be shaky right now, but the banking sector is still fundamentally strong. We'll get through this turbulence, folks. It's just a short-term challenge, not a long-term trend.

 

So, sit back, relax, and enjoy the show. The financial world may be in chaos, but at least we can still find some entertainment in the midst of it all.

 

What Is Actually Happening?

Despite concerns of a new banking crisis, industry analysts say that what's currently happening in the financial sector is not a banking crisis, but rather a 'sentiment contagion'. The collapse of U.S.-based Silicon Valley failure since the global financial crisis, sparked a sell-off in banking stocks, and as a result, contagion fears spread throughout the industry. The S&P 500 Banks index climbed 3% on Monday, but remained down 22.5% over March, while in Europe, the Stoxx 600 Banks index closed 1.7% higher Monday but has shed more than 17% this month.

The recent collapse of Silicon Valley Bank has certainly raised concerns among investors, but it's important to note that this is not another banking crisis. According to industry analysts, the situation is more of a sentiment contagion, rather than a systemic failure within the banking sector. Citi's conclusion that the market is currently "irrational" further supports the idea that the current situation is not a repeat of the 2008 financial crisis.

Despite the widespread panic and negative sentiment, industry leaders are urging investors to remain calm and not to panic. They point out that the banking sector is still fundamentally strong, and that the recent declines in the stock market and bank failures are more of a short-term challenge than a long-term trend.

According to data, the banking sector has suffered a decline in investor confidence, with the stock market dropping. However, it's important to note that these declines are primarily driven by sentiment rather than systemic failures within the banking sector. This is evidenced by the fact that banks have filed for bankruptcy since the start of the year, but there are no indications of widespread problems in the industry.

 

The global financial markets have been in a state of shock in recent days due to the collapse of Silicon Valley Bank, the biggest banking failure since the global financial crisis, and the emergency rescue of Credit Suisse by Swiss rival UBS. The news has sent waves of panic across the banking sector, causing a sell-off in banking stocks and igniting fears of a contagion effect.

Deutsche Bank was the next target, with shares plunging and the cost of insuring against its default spiking at the end of last week, despite the German lender's strong capital and liquidity positions. The sudden volatility in the banking sector has left market watchers scratching their heads and questioning whether the market is operating on sentiment rather than fundamentals when it comes to fears of a systemic banking crisis. 

The situation seemed to calm down a bit on Monday after First Citizens agreed to buy a large chunk of failed Silicon Valley Bank's assets. This development gave a boost to the S&P 500 Banks index, which climbed 3% on Monday, although it still remains down a staggering 22.5% for the month of March. In Europe, the Stoxx 600 Banks index closed 1.7% higher on Monday, but it has shed more than 17% this month.

The market turmoil has led many to ask whether the panic is justified, especially given that some of the banks in the headlines recently had risk management issues with traditional assets, and that rapidly rising rates exposed those weaknesses. As Sara Devereux, the global head of the fixed income group at asset management giant Vanguard, noted in a Q&A session on Friday, "This isn't like Lehman Brothers subject to counterparty risk in complex derivatives during the subprime mortgage crisis."

 

Despite the current challenges, experts are urging investors to remain calm and take a long-term perspective. The banking sector is still fundamentally strong, and it's important to remember that the current volatility is just a short-term challenge, not a long-term trend. As we move forward, we can expect the market to continue to fluctuate, but by staying informed and keeping a level head, we can weather the storm and emerge stronger on the other side.

According to Sara Devereux, the global head of the fixed income group at asset management giant Vanguard, the recent collapse of Silicon Valley Bank and the emergency rescue of Credit Suisse by Swiss rival UBS could have been avoided if the banks hadn't lost the confidence of their clients. Massive depositor outflows from both banks in recent months have demonstrated the loss of faith in their ability to manage risk and maintain a stable financial position.

However, Devereux suggests that the recent panic in the banking sector is more of a "sentiment contagion" than a true systemic contagion like the one seen during the global financial crisis. She believes that the damage has been largely contained, thanks to the quick action of federal agencies and other banks.

 

Despite the losses suffered by SVB, Credit Suisse, and Deutsche Bank, experts are urging investors to remain calm and keep a long-term perspective. While the recent volatility in the banking sector may be concerning, it's important to remember that the sector is still fundamentally strong. By staying informed and keeping emotions in check, investors can weather the storm and emerge stronger on the other side.

While the recent collapse of Silicon Valley Bank and the ensuing panic among investors may have sparked fears of a new banking crisis, industry analysts are confident that the situation is more of a sentiment contagion. Despite the short-term challenges facing the banking sector, industry leaders are urging investors to remain calm and not to panic. The sector is still fundamentally strong and is expected to recover over the long term.

 

‘Irrational market’

The global financial market can be an unpredictable and tumultuous place, with various factors impacting its daily movements. On Friday, one such day, the market experienced a significant shift that left analysts scratching their heads. In response to the sudden decline in stock prices, financial institutions such as Citi have concluded that the market is behaving irrationally.

One example of this irrationality can be seen in the dramatic drop in Deutsche Bank's stock price, which fell by 8.6% on Friday. Despite the bank's successful restructuring effort and ten consecutive quarters of profits, its shares continued to plummet. On Monday, the stock made a partial recovery, rising by 6.2% to close at just over 9 euros per share.

There have been various speculations about the reasons behind the decline, including Deutsche's exposure to U.S. commercial real estate and the Department of Justice's (DoJ) information request to several banks regarding Russian sanctions. However, market analysts, including those at Citi, have concluded that these reasons alone are insufficient to explain the significant drop.

 

Furthermore, the Citi strategists warned of the "knock-on effect" of media headlines, which can create a psychological impact on depositors regardless of the initial reasoning behind the market's movements. As such, the unpredictable nature of the financial market can lead to irrational and unwarranted fluctuations, causing investors and financial institutions alike to question the true value of certain assets.

The financial market is a complex and constantly evolving entity, and it is not uncommon for it to behave in ways that defy rational explanation. While the reasons for Friday's decline in stock prices remain unclear, it serves as a reminder of the inherent unpredictability of the market and the need for caution and prudence when investing in it.

 

Is Europe different?

Dan Scott, the head of Vontobel Multi Asset, spoke with CNBC on Monday to discuss the impact of the Basel III framework on European banks. This framework was introduced after the financial crisis to strengthen banks' regulation, supervision, and risk management, and Scott believes that it has resulted in European banks being heavily capitalized. He pointed out that Credit Suisse's common equity tier 1 ratio and liquidity coverage ratio, two important metrics of a bank's strength, suggested that the bank was solvent and liquid before its emergency sale to UBS.

Scott went on to say that the failures seen in the financial market were an inevitable consequence of the rapid tightening of financial conditions by the U.S. Federal Reserve and other central banks around the world in a relatively short space of time. However, he stressed that the situation for big European lenders is very different from that of small- and medium-sized U.S. banks.

While there have been reports of issues in the crypto world and with SVB, Scott believes that these have largely been ignored as they are outside of regulated capital. The real concern, according to Scott, is with small- and medium-sized banks in the U.S. that are not Basel III-regulated and have not been stress-tested. These banks are likely to face real issues, unlike the big cap banks in Europe, which are looking at a completely different picture and should not be a cause for concern.

 

The introduction of the Basel III framework has resulted in heavily capitalized European banks, with Credit Suisse's presale metrics suggesting that the bank was solvent and liquid. While there have been failures in the financial market, Scott believes that the situation for big European lenders is very different from that of small- and medium-sized U.S. banks, which are not Basel III-regulated and have not been stress-tested. As such, investors should be cautious when investing in smaller U.S. banks, but can feel more confident in investing in big cap banks in Europe.

 

What Should Be Done Now?

Certainly! Based on the analysis presented, it is clear that there is a significant need for action to address the issue of climate change. In order to mitigate its effects, it is essential that individuals, businesses, and governments take proactive steps towards reducing carbon emissions and transitioning to renewable energy sources. 

There are several key strategies that can be employed to achieve these goals. First, it is important to increase public awareness and education about the impacts of climate change and the steps that can be taken to address it. This includes encouraging individuals to reduce their own carbon footprint through measures such as driving less, reducing energy consumption at home, and eating a plant-based diet.

Furthermore, governments must take a leading role in reducing carbon emissions and promoting renewable energy development. This can be done through policies such as carbon taxes, incentives for renewable energy production, and regulations on emissions from industry and transportation. Moreover, businesses must also play a role in addressing climate change by reducing their own carbon footprint and investing in renewable energy. This includes measures such as improving energy efficiency, transitioning to electric vehicles, and investing in renewable energy production.

 

Climate change is a critical issue that requires urgent action from all levels of society. By working together and implementing strategies such as public education, government policies, and business investments, we can take meaningful steps towards mitigating the effects of climate change and protecting our planet for future generations.

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