A big short squeeze in bank stocks punctuated a week of resurgent volatility across asset classes, with anxiety over efforts to stanch turmoil in the financial system leaving no market untouched.
(Bloomberg) — A big short squeeze in bank stocks punctuated a week of resurgent volatility across asset classes, with anxiety over efforts to stanch turmoil in the financial system leaving no market untouched.
While paring its gain amid Friday’s surge in the S&P 500, the Cboe Volatility Index of equity-market stress posted its first weekly rise in seven and biggest since the bank troubles emerged in March. A measure of cross-asset risk kept by Bank of America rose for four straight days through Thursday, only the second time it’s done that this year. Turbulence measures in bonds and oil also spiked.
Risk appetites are being tested amid the ongoing spectacle in shares of smaller US lenders. The S&P Regional Banking ETF (KRE) twice lurched as much as 8% this week following the rescue of First Republic Bank. Moves in bond yields, oil and gold showed traders reconsidering bull cases on the economy even as the Federal Reserve hinted its campaign of rate hikes is over and American businesses kept hiring.
“You’re getting the type of trading where emotions flip on a dime,” said Steve Sosnick, chief strategist at Interactive Brokers, by phone. “There is no secret-sauce for saying what turns a seemingly healthy bank one day into a source of concern another, and it might be nothing more than just people worrying about it.”
The S&P 500 ended the five days down 0.8%, with Friday’s 1.9% surge paring a drop that stood at 2.6% a day earlier. A basket of highly-shorted stocks tracked by Goldman Sachs Group Inc. jumped more than 3% on the final day of the week as bears closed positions.
The yield of the two-year Treasury note swung 50 basis points from its peak Tuesday to a low Thursday, helping to send the MOVE index of bond volatility to its highest in almost a month as traders weighed how banking stresses will influence the Fed’s policy path. A JPMorgan Chase & Co. gauge of global foreign-exchange volatility bounced off its low for the year to rise for five straight days. Ten-day volatility in oil jumped to the highest level since October as crude sank for a third week.
Traders looking for safety pushed the amount of cash into money-market funds to a record and bid up gold to its highest level in over a year.
Combined, the swings pierced the facade of peace that had been reestablishing itself in markets following the collapse in March of SVB Financial Group and other regional lenders. Investors convinced they’d seen the worst of inflation and the Fed’s hammering on the economy had less success processing the prospect that some banks remained vulnerable.
While the rout in shares of regional banks eased Friday, investors were loath to sound the all-clear. Options that bet for and against the KRE spiked near record levels this week. Much of the gains Friday came after a measure of short interest on the ETF hit its highest since mid-March.
“The wild card or caveat is always that banking systems are built or based on the trust of depositors. If that trust or confidence is questioned (potentially due to negative news headlines or sharp declines in share prices), a panic or frenzy can unfold where people start pulling their deposits at otherwise solid banks,” said Phillip Colmar, global strategist at MRB Partners.
Assessing what bank turmoil might mean for the economy was an especially fraught task in a week of unhinged volatility that also saw two of the industry’s most important people — JPMorgan Chief Executive Jamie Dimon and Fed Chair Jerome Powell — describing the situation as contained. “Everyone should just take a deep breath,” Dimon said after completing the First Republic acquisition Monday — a deal that “kind of draws a line under that period,” Powell later said.
The role of exogenous forces in the volatility also complicates efforts to get a clean read on the implications. Short positions in regional banks jumped appreciably in the runup to Tuesday’s plunge and a Goldman Sachs trading note said bearish hedge funds were part of that session’s initial surge of selling. Lawyers at the Wachtell, Lipton firm urged the Securities and Exchange Commission to impose a 15-day prohibition on short sales to give time for work on restoring confidence.
Still, the size of the moves were harrowing. PacWest Bancorp fell 11%, 28% and 51% and rose 82% in separate sessions, while Western Alliance Bancorp lost nearly one-third of its value on the week. If nothing else the volatility raised pressure on lenders to shore up their own finances lest they been drawn into the cyclone.
“It’s said that when a pebble starts to fall, you don’t know if you have a landslide,” said Michael Sonnenfeldt, founder of Tiger 21, on Bloomberg TV. “The banks are concerning not because of the couple that failed, but because the sea change of policies is going to make lending much more difficult,” he said.
And while the labor market is still showing mostly resilient signs and the inflation rate is still high, a non-functioning regional banking system would put a “brake on growth,” Sonnenfeldt added.
A factor putting a floor under stocks amid all of the volatility has been a better-than-expected earnings season. First-quarter profits in the S&P 500 are now on track to drop less than 4% from a year ago, compared with projections a month ago for an 8.1% drop, according to Bloomberg Intelligence.
“The pain trade feels a little bit higher from here, and it feels like everyone’s missing out on it because there’s been a lot of angst. You say the word recession and nobody is going to pile into equities,” said Abby Yoder, a US equity strategist at JPMorgan Private Bank.
–With assistance from Carly Wanna.
More stories like this are available on bloomberg.com
©2023 Bloomberg L.P.