What the banking sector turmoil means for tech, monetary policy and investors
- The banking crisis has highlighted some of the fragilities in the system and is likely to lead to a tightening of credit conditions
- Monetary policy expectations have significantly adjusted, with interest rates looking closer to their peak
- We remain positive on technology and selected fintech stocks
- Higher credit spreads provide opportunities in fixed income, with bank AT1 securities re-pricing after the Credit Suisse merger and new issuance likely to be limited
- Overall recent events reflect the risk of monetary tightening but, for now, do not represent a material systemic risk to global financial stability. Policymakers have moved quickly to support confidence in markets on both sides of the Atlantic.
Markets have experienced a wave of volatility in the wake of the failure of Silicon Valley Bank (SVB) and UBS’ takeover of Credit Suisse. Concerns have understandably risen over the health of the wider banking and technology sectors and some commentators have drawn comparisons to the 2008 financial crisis.
We do not believe that is an accurate assessment. However, the current situation could potentially have an impact on monetary policy, banking system operations, and ultimately economic growth.
Below, four AXA IM experts summarise their views of the current environment.
Chris Iggo, CIO, AXA IM Core
The combination of SVB’s collapse and UBS’ takeover of Credit Suisse has created a great deal of uncertainty over the market and wider economic outlook.
The situation has also raised questions about unintended consequences from monetary policy tightening.
This has highlighted to investors some of the financial fragilities in the system: Risk indicators have risen – credit spreads have widened; we’ve witnessed an increase in interest rate volatility and across bond and equity markets over the past week or so.
On balance we expect this situation will lead to a general tightening of credit conditions. Banks will face higher costs of funding, and loan growth at the margin will be affected – this will have implications for the economic outlook, which we think has deteriorated because of recent events.
All eyes will be on the Federal Reserve (Fed) this week. Certainly, following almost 500 basis points (bp) of tightening, this cycle compared with previous periods has been much more aggressive. Markets had priced in a Fed Funds Rate peak of some 5.65% but today it’s barely pricing in an additional 25bp move. There has been a big readjustment of expectations. The market is now even pricing in rate cuts from the middle of this year. We will see how things settle down over the current round of central bank meetings, but it now looks a lot more likely we are close to the peak of the cycle.
While this swift emergence of financial instability is concerning, we do not believe this is another 2008, which was rooted in poor-quality housing-related assets on bank balance sheets. Fundamentally the events of the past 10 days or so have hit the global economic growth outlook. Certain fixed income strategies – such as short duration credit – should benefit. We think a well-thought-out active, diversified investment approach is the best way to meet the challenges ahead.
Vincent Vinatier, Portfolio Manager, Equity, AXA IM Core
Recent events in the US revolved around specific cases and it’s important to highlight this. SVB focused on tech start-up clients and experienced strong growth during and after the pandemic, with a lot of liquidity directed into that space. Over the last two years, the bank redeployed deposits into US Treasuries, particularly longer duration to maximise returns – a fairly standard approach.
However, the bank’s depositor base had been under pressure for some time and started to ask for deposits back. With interest rates up significantly over the past year, having to sell Treasuries to meet these demands crystallised losses for SVB, and word of mouth spread that the bank could be in trouble. Once confidence is lost, it is lost. This then brought about a spiral as outflows accelerated and resulted in a bank run.
The wider issue is the deposit system in the US, which is very unbalanced. While deposits are guaranteed up to $250,000, investors and depositors know that larger banks are too big to fail and that their deposits are essentially insured in their totality. Large banks are also more regulated in terms of capital and liquidity requirements and stress tested regularly – unlike smaller banks. In a rising rate environment, these imbalances are not sustainable and make smaller regional banks more fragile.
Insuring all deposits over $250,000 for the whole system will not be viable – the first move towards finding a longer-term solution will likely be tightening regulation and capital and liquidity requirements for smaller banks. But this poses significant economic challenges - if you ask smaller banks to hold more capital, then their appetite for financing the economy will reduce. Lower rates will help but with inflation being persistent it’s a difficult balancing act to execute.
We expect a slowdown in innovation within fintech as a result. But for established firms – in good market positions and generating cash flows – the disruption from new entrants will be reduced. This will now bring a degree of pricing power back to stronger players, which should be good for the medium term.
Jeremy Gleeson, Head of Investment Team, Equity, AXA IM Core
SVB was an important provider of commercial banking services to the US technology industry. A combination of a slowdown in the tech sector and reduced venture capital investment into start-ups meant that SVB’s customers were burning through their money and needed to withdraw their deposits from the bank, which sounded the death knell for SVB.
The wider technology sector has been quite resilient in the past few weeks. Many listed companies have confirmed that their exposure to banks that have experienced financial difficulties is largely de minimis. Thanks to the quick reactions we have seen from the Fed and other institutions in the US to protect and shore up assets, we have not seen a significant impact on tech stocks.
The ripples of market shocks will always have the potential to cause problems further down the line. But many of the technology companies we view as most interesting are still growing – just at a slower rate than they enjoyed in 2020 and 2021, when many saw a period of stellar growth as a result of the pandemic.
However, when we see a period of uncertainty anywhere in the economy, it is likely to lead to decision-makers deferring new projects or purchases by a few weeks or months, until there is more clarity.
While this could impact tech companies, an increasing number of businesses, particularly in the software-as-a-service sector, have moved to subscription models over the last decade. This means that even if customers delay signing a new contract, the majority of tech company revenues come from customers they had previously signed, so the impact on revenues and cash flow is likely to be fairly small.
We continue to be excited by several technology themes that continue to demonstrate commercial success across software, semiconductors and the internet, which are well-funded areas supported by successful companies that are able invest even in the face of a bank crisis. We also view the cybersecurity industry as particularly resilient as companies understand they need to continue investing to protect themselves from bad actors – and this is something that will not change based on the broader economic environment.
Ismael Lecanu - AXA IM Head of Euro Investment Grade and High Yield
The Credit Suisse situation has been a shock for many market participants, particularly around Additional Tier 1 (AT1) bonds. These are generally understood to be riskier, but investors have been used to debt ranking above equity in moments of market stress like this. It may not feel like it, but in fact, this crisis has proven again that the senior part of the capital structure is well protected.
That said, it has been a good reminder to investors that this asset class is relatively risky, and they should be remunerated for that risk. You can have strict regulation and decent asset quality, but a liquidity crisis can still mean a bank is gone in 24 hours.
We remain exposed to AT1s, diversified across mostly commercial banks rather than investment banks, and we will continue to consider AT1s based on fundamentals and risk. It is likely that any new AT1 issuance will require much more yield, but we don’t expect much new issuance in the coming weeks. The cost right now is too much to come to market and many banks have the capacity to wait for some stabilisation in the market. We think stabilisation is likely, but unsurprisingly with some uplift for investors over the yields seen earlier this year.
The large majority of European banks look completely different to Credit Suisse in terms of both operating model and funding model. The Credit Suisse situation looks like an isolated incident; there are also differences between the US and Europe. We are more comfortable with the regulatory oversight in Europe, and events of the past week have not shaken this view. The European Central Bank has a number of tools that should support investor confidence in the banking system.
There is a risk, we think, in potential changes to the macroeconomic environment from this crisis. We will closely watch the next European bank lending survey and banks’ first quarter earnings for evidence of longer-term difficulties and deposit outflows – or for players that may have been able to expand market share during this period.
Key investment takeaways:
- The monetary policy cycle looks like it is set to peak earlier than anticipated with current market pricing suggesting cuts in rates from mid-year in the US and limited further hikes in the Euro area
- Certain fixed income strategies – such as short-duration credit – should benefit. We remain positive on technology and fintech stocks
- We continue to be excited by technology themes such as artificial intelligence and the metaverse, which are well-funded areas supported by successful companies that are able to invest even in the face of a bank crisis
- We view the cybersecurity industry as particularly resilient as companies understand they need to continue investing to protect themselves from bad actors – and this is something that will not change based on the broader economic environment
- The Credit Suisse situation looks like an isolated incident; there are also differences between the US and Europe. We are more comfortable with the regulatory oversight in Europe, and events of the past week have not shaken this view
- This is not a 2008 event as credit quality and capital ratios are much healthier in the global banking system. However, recent events highlight the risks from monetary tightening. Markets are in the process of adjusting to these new risks.