The collapse of the SVB is a sign of the pain that comes from the end of the easy money era

The era of easy money is over and its effects are only just beginning to be felt in world markets before the end of the sharpest cycle of interest rate hikes in decades.

The risks became clear this week when US tech specialist Silicon Valley Bank was shut down by California banking regulators on Friday, triggering a collapse in bank stocks. The SVB was looking for funds to offset a slump in a $21 billion bond portfolio that was the result of rising interest rates as customers withdrew deposits.

Central banks, meanwhile, are shrinking their balance sheets by shedding bond holdings as part of their fight against hot inflation.

We look at some potential pressure points.

BANKS

Banks shot up the worry list as the SVB defeat hit bank stocks worldwide on contagion fears. European banks slid on Friday after shares in JPMorgan and BofA fell more than 5 percent.

SVB’s problems stemmed from deposit outflows as customers in the technology and healthcare sectors struggled to raise cash elsewhere, raising questions about whether other banks would also need to cover deposit outflows through loss-making bond sales.

In February, US regulators said US banks had more than $620 billion in unrealized losses on securities, underscoring the impact of rising interest rates.

Germany’s Commerzbank issued a rare statement downplaying any threat from SVB.

Analysts initially saw the problems of the SVB as idiosyncratic and consoled themselves with more secure business models at larger banks. BofA found that European banks’ bond holdings have not grown since 2015.

“Typically, banks wouldn’t make big duration bets on deposits, but with rates rising so quickly, it’s clear why investors might be concerned and sell now and ask questions later,” said Gary Kirk, partner at TwentyFour Asset Management.

Also read: The spirit of contagion following the Silicon Valley Bank troubles is haunting the markets

darlings no more

Even after stock prices rallied in the first quarter, higher interest rates have dampened willingness to get involved in early-stage or speculative companies, particularly as established tech companies issued profit warnings and cut jobs.

Tech firms are reversing pandemic-era exuberance and cutting jobs after years of hiring frenzy. Google owner Alphabet plans to lay off about 12,000 workers; Microsoft, Amazon, and Meta fire nearly 40,000 together.

“Although NASDAQ is an interest rate sensitive asset, it has not responded to the impact of interest rates. If interest rates continue to rise in 2023, we could see a significant sell-off,” said Bruno Schneller, Managing Director at INVICO Asset Management.

DEFAULT RISKS

The spread on corporate debt has fallen since the beginning of the year, signaling little risk, but corporate defaults are rising.

According to S&P Global, last year Europe had the second-highest number of defaults since 2009.

Default rates in the US and Europe are expected to reach 3.75 percent and 3.25 percent in September 2023, respectively, up from 1.6 percent and 1.4 percent last year, with bearish forecasts of 6.0 percent and 5.5 percent are not “excluded”. “

And amid rising defaults, the focus is on the less visible private debt markets, which have risen to $1.4 trillion from $250 billion in 2010.

In a low-rate world, the largely floating-rate nature of the funding has appealed to investors who can earn returns in the low double-digits, but now that means rising interest costs as central banks hike rates.

CRYPTO WINTER

Bitcoin rallied earlier in the year but was at a two-month low on Friday.

caution remains. Finally, rising borrowing costs roiled crypto markets in 2022, with bitcoin prices plummeting 64%.

The collapse of various dominant crypto companies, notably FTX, left investors shouldering huge losses and called for more regulation.

Shares of crypto-related companies fell on March 9 after Silvergate Capital Corp, one of the largest banks in the cryptocurrency industry, announced it would cease operations, sparking a crisis of confidence in the industry.

FOR SALE

Real estate markets started to crack last year and house prices will continue to fall this year.

Fund managers surveyed by BofA see China’s troubled real estate sector as the second most likely source of a credit event.

The law firm Weil, Gotshal & Manges has found that the European real estate sector has reported by November at a level of distress not seen since 2012.

How the sector finances itself is crucial. Officials warn European banks are risking significant profit losses from falling property prices, making them less likely to lend to the sector.

Property investment management firm AEW estimates the sector in the UK, France and Germany could face a €51bn funding gap by 2025.

Money managers Brookfield and Blackstone recently defaulted on some real estate-related debt as interest rate hikes and falling office demand hit real estate values ​​in particular.

“The reality that some of the values ​​out there aren’t right and may need to be downgraded is something everyone’s focused on,” said Brett Lewthwaite, global head of fixed income at Macquarie Asset Management.