QUOTE OF THE WEEK
“Perfection is not attainable, but if we chase perfection we can catch excellence.”
- Vince Lombardi
Last week after events settled down with the Federal Deposit Insurance Corporation (FDIC) coming to the rescue, all depositors with accounts in excess of $250,000 at the failed banks were guaranteed safe and the markets rallied. The Dow was down -0.1%, the S&P 500 was up +1.4%, and the Nasdaq was up +4.4%.
As I discussed in last week’s letter, the big news was Silicon Valley Bank (SVB) being taken over by the FDIC after facing a classic bank run which soon followed by them taking over Signature Bank. First Republic Bank, which much like SVB catered to the tech industry, is now under severe pressure. Swiss banking authorities have arranged a takeover of Credit Suisse, a major bank in Europe, by its rival UBS.
It is impossible to know what is coming next as no one can really see behind the black curtain as to what the Fed and the FDIC are seeing. And based upon the poor quality of the decisions by the Fed recently I’m not sure they will do the right thing.
I am sure that there will be a deep dive into why this has happened. In the case of SVB, the Fed’s regulators knew for some time that the bank was a problem but for some reason they didn’t address the issue before it was too late.
The quandary the Fed is facing is do they continue to raise rates on Wednesday this week, or do they stop where they are now? If they stop raising rates that could be a problem in fighting inflation. If they do raise rates, will that further cause the balance sheets of regional or smaller banks with long-term bonds in their reserves at low interest rates to deteriorate? Remember when interest rates go up bond prices go down.
The Fed raised rates by 25 basis points or one quarter of one percent today to a target range of 4.75% to 5%. Powell said Fed officials did consider pausing increases in the days leading up to the meeting but in the end the hike got unanimous support. They said that the bottom line is that inflation is still too high and more interest rate increases are needed.
Powell began the press conference by saying the banking system is sound, and he emphasized the steps the central bank took to provide liquidity. But he said there is still considerable uncertainty over how much the banking disruptions will threaten lending conditions and slow the economy. If there is a big pullback in lending that weights on growth, the Fed will not need to raise interest rates as much.
Median projections for where interest rates will by the end of this year were unchanged at 5.1%. The Fed made no changes to their Quantitative Tightening of up to $95 billion a month. What this means is the Fed is taking $95 billion a month out of the money supply which is designed to slow the economy. Less money in the system means less money to spend.