The recent failure of three U.S. banks has dominated news headlines for the past few weeks and has spread to Europe. Credit Suisse, Switzerland’s second largest “global systemically important bank” and latest institution teetering on collapse, was purchased by UBS in a $3.2 billion deal brokered by regulators, making it Europe’s most significant banking merger since the 2008 financial crisis.
Smaller U.S. banks have also turned to the Federal Reserve for assistance, borrowing $165 billion, which surpassed the previous record of $111 billion set in 2008. Eleven larger banks, such as Bank of America and Wells Fargo, came together to aid First Republic Bank to the tune of $30 billion. This collaborative rescue effort aimed to shore up customer withdrawals and restore confidence in the banking system.
Testing Our Resolve
While the situation is still evolving, these banking system concerns add to the numerous challenges investors have faced in recent years. Over the past 12 months alone, stubborn inflation, aggressive Fed rate hikes, Russia’s invasion of Ukraine, and a bear market have all made hope for the future sometimes difficult to see.
In 2021, it wasn’t uncommon to feel concerned about the sustainability of the economic recovery and excessive stock market valuations. In 2020, the pandemic and nationwide shutdowns threatened the economic and financial system, in addition to the well-being of everyday folks. Many of these events occurred seemingly out of left field and easily caught us off guard.
While there are unique circumstances behind the failures of Credit Suisse and Silicon Valley Bank, banking crises are not as unexpected as global pandemics and military invasions. With the benefit of hindsight, these bank failures echo other collapses across history.
The common thread across these episodes is the availability of money, the expansion of credit, and the eventual tightening of financial conditions. Like a sugar rush, the supply of credit and the flow of funds through the global financial system can drive asset bubbles, appreciating currencies, and risk-taking in a particular market or across a whole country. Sooner or later, however, there is a sugar crash as returns peter out, sentiment shifts, and conditions tighten.
While failed banks are not innocent bystanders – they often involve poor risk management and excessive risk-taking – they are also subject to macroeconomic trends just like any other corporation. When both the supply and demand for money by individuals and businesses are expanding, banks have strong incentives to extend more and more credit. As this compounds, it can lead to asset bubbles in real estate, the stock market, and more, which in turn further increase the appetite for credit. While this can continue for longer than expected, eventually it grinds to a halt.
It’s no coincidence that this is occurring just as the Fed, the European Central Bank, the Bank of England, and other monetary authorities are removing liquidity from the system by shrinking their balance sheets and raising interest rates. Coupled with lower asset prices across the broad stock market, the tech sector, and areas like cryptocurrencies, it’s natural for financial stresses to build.
What does this mean for you?
Within the S&P 500, regional bank stocks have struggled, falling 34% year-to-date and the broader financial sector declining 9.4%. Despite those losses, the S&P 500 has still gained 3.4%. This is because sectors such as Information Technology and Communication Services have risen 17.5% and 18.4%, respectively, over this same period. Hopefully, this drives home the importance of staying diversified both across and within markets.
While some folks may always wait for the “opportune time” to invest in the market, these same investors may be hesitant to take advantage of temporary downturns due to the nature of each market crisis. What inevitably happens is missed opportunities when markets eventually recover and too much time out of the market.
The bottom line: Despite the big market and financial events this year, the best course of action is still to stick to well-constructed portfolios and financial plans. While this can be easier said than done, we’re here to help you. Please reach out.
Uplevel Wealth is a fee-only, fiduciary wealth management firm serving clients in Portland, OR and virtually throughout the U.S.