By Naomi Rovnick and Mehnaz Yasmin
LONDON (RockedBuzz via Reuters) – Investors had shrugged off the threat of a rise in interest rates for months. That changed this week.
The rush for new capital by US tech bank SVB Financial Group, after it lost $1.8 billion by selling a package of bonds to meet depositors’ cash demands, has sparked a global bank stock rout and a afterthought.
In SVB’s case, venture capital clients withdrew money from the bank because it struggled to raise funds elsewhere, forcing its hasty sale of loss-making bonds. Banking regulators on Friday shut down the lender amid a run on deposits, the largest bank failure since the global financial crisis.
It’s a wake-up call not only for investors, who have thus far largely shrugged off the rapid rise in interest rates, but also for banks, which are vulnerable to a sharp sell-off in government bonds.
“This is the first time since rates started to rise where systemic risk has really arisen,” said Florian Ielpo, macro head at Lombard Odier Investment Managers.
“So far it’s just tremors, but we have to be very careful.”
After more than a decade of propping up economic life through easy politics and flooding the markets with trillions of cash that even spawned virtual crypto money, central banks have backed off.
Corporate bonds and stocks suffered heavy losses last year on rising borrowing costs, but the resilience of major economies, as well as China’s post-pandemic reopening and an unexpected reversal in energy prices they have supported the general mood – until now.
Chart: The Race to Raise Rates https://www.ceiving.com/graphics/GLOBAL-MARKETS/klvygnlbyvg/chart.png
Major developed economies alone have raised rates more than 3,000 basis points in this tightening cycle, the fastest pace since the 1980s in an effort to tame prices.
Bets on further hikes have increased in recent days as inflation remains stubbornly high, with Federal Reserve Chairman Jerome Powell reiterating his message of higher and potentially faster rate hikes on Wednesday.
The unease triggered by the SVB has left European bank stocks suffering the biggest weekly losses since September and US bank shares plunging more than 12% this week, their biggest weekly drop since early 2020. Commerzbank issued a rare statement downplaying any threats from the SVB.
Meanwhile, demand for US dollars in the currency derivatives markets increased on Friday, another sign of stress spreading through the system.
After triggering the great financial crash more than a decade ago through high-risk bets on home loans, banks are now moving up investors’ list of worries.
SVB’s loss on the sale of its $21 billion available-for-sale securities, consisting mainly of US Treasury bills, sparked concerns for US bank bond portfolios.
Regulators said US banks have more than $620 billion in unrealized losses on securities, underscoring the scale of the risks.
Chart: Unrealized Gain (Loss) on Investment Stocks https://www.ceiving.com/graphics/BANKS-UNREALIZED%20LOSSES/CHART/lbpggladopq/chart_eikon.jpg
Banks aren’t required to immediately recognize paper losses on a bond, allowing some of these risks to slumber on their books.
Jason Benowitz, senior portfolio manager at CI Roosevelt, said SVB risks weren’t unique with many banks sitting on such unrealized losses because rates have moved so quickly.
“These aspects of the SVB crisis are common to the banking system more broadly,” he noted.
Bonds lose value when yields rise in a high-rate environment. Smaller banks are at greater risk, analysts say.
US benchmark 10-year yields rose more than 200 basis points last year and nearly 40 basis points in February alone on fresh bets on rate hikes.
“The SVB situation reminds us that many institutions are sitting on large unrealized losses,” said Russ Mould, director of investment research at AJ Bell. Geoffrey Yu, senior EMEA market strategist at BNY Mellon, said investors could “take heart” from signs that the financial system has caught up with global rate hikes.
But he added “it’s a reminder that perhaps there is repricing needed to reflect the fact that higher rates translate into loan losses and some banks will face the stress.”
“It’s just a wake-up call that there’s still a chance you’ll identify pockets of risk and that you’ll see loan losses and an increase in bankruptcies.”
(Additional reporting by Iain Withers and Nell Mackenzie in London; Screenplay by Dhara Ranasinghe and John O’Donnell; Editing by Kirsten Donovan)