S&P 500 holds its ground after banking rout ahead of FOMC meeting
09:07, 17 March 2023
A hectic week comes is coming to an end and it seems like the financial situation is getting worse and worse. In a matter of 10 days, we’ve gone from a very hawkish Powell speech and the possibility of 50bps at the FOMC meeting next week, to the collapse of several global banks and the fear that the financial system is in trouble, leading to markets pricing in a chance that we see no hike at all.
The fact is that the FOMC meeting next week is going to be key. On Thursday we saw the ECB deliver another 50bps playing down speculation that the bank would tone down its hiking schedule given the recent liquidity problems of Credit Suisse, which is highlighting the worsening conditions banks are also facing in Europe. Markets are still aligning a greater chance of 25bps being delivered by the Fed (80%) and in all honesty, I don’t see them deviating from this. Messaging is almost as -if not more - important than the actual decision and leaving policy unchanged at the meeting next week would likely induce panic given Powell's hawkish speech just two weeks prior. This would suggest that the Fed is actually concerned about the banking situation in the US, which would no doubt lead to a sustained selloff in equities.
The other alternative of 50bps is also not feasible at this point, given the path is pretty much set for 25 and therefore there is little risk of markets feeling like they underdelivered. Plus given the current environment markets would probably see 50bps as a careless move by the Fed, likely seeing a selloff in equities too.
But is the reasons to be concerned at this point? As John Authers reports in his Points of Return blog, US banks have borrowed a staggering $152.85 billion from the Fed’s discount window — their traditional liquidity backstop — in the week that ended Wednesday. The prior all-time high was $111 billion reached during the 2008 financial crisis. So yes, some people would agree that being worried is accurate right now.
The fact that we have arrived at this situation isn’t all that shocking, but the impact on the wider economy is hard to determine, and likely the key for markets going forward. Banks have for long enjoyed a stable regime of low rates and low inflation, but with the massive stimulus injected after the Covid-19 pandemic this situation, which works great for banks, was due to end. Real rates (fed funds target minus headline inflation) continue to be negative, evidencing how lagged the Fed has been in delivering inflation-combating rate hikes and the prospect that there is still further ground to cover.
The issue is that, whilst rates were close to 0 investors saw more value in placing their capital in the stock market as bonds were offering little to no return. But now that bonds have become more competitive it leads to the question of how much are investors willing to pay for stocks, and what level of price multiples makes sense.
So far the S&P 500 is recovering the losses that started on Thursday last week and is looking to close the week with gains. A key thing to note is that it has managed to cross above its 200-day SMA (3931) and given it didn’t manage to get a close below its 2022 descending trend line it shows there is a reluctance from buyers to let go. The key now will be to hold above the 3960 mark as it heads into Fed week, where no doubt we will see further volatility.
The Nasdaq has been faring much better as the tech sector has been seeing some mild gains on the back of the move away from financials. The recent push higher has broken above the highs seen earlier this month, which has been pushing the RSI towards the overbought area. A key test of the appetite of buyers to push higher will be the resistance range between 12730 and 12800. If cleared, the next test would be 12900 before opening the path to the 1300 mark. For now, the 200-day SMA (11883) continues to provide enough support for the path of least resistance to be upwards.