By Simon Murphy, fund manager, VT Tyndall Real Income Fund
In the space of just two weekends, we have seen the second and third-largest bank failures, by assets, in US history, namely Silicon Valley Bank and Signature Bank respectively. This has been followed by the hastily arranged sale of Credit Suisse to UBS, after it became clear that not even a $54bn credit line from the Swiss National Bank would be sufficient to shore up client confidence in the ailing franchise.
Meanwhile, the 14th largest bank in the US by assets, First Republic Bank, has had a $30bn cash infusion from 11 top US banks, including JP Morgan Chase and Bank of America which still, at the time of writing, has not been enough to restore confidence in the survival of First Republic.
With the uncertainty of ‘who’s next’ gripping markets, and memories of the Global Financial Crisis of 2008/9 still fresh in the mind, it is perhaps only natural to question whether we are on the verge of another global financial crisis.
Without wishing to downplay the seriousness of the above events, our view remains that a 2008 Redux is not particularly likely. This seems to be first and foremost a liquidity issue not a solvency one, unlike in 2008, given that much greater capital buffers are in place at both the global and regional banks compared to 2008. Furthermore, the authorities have the tools and the experience (post the GFC) to deal with liquidity issues quickly, which is exactly what we are seeing occur in the situations noted above.
Clearly markets are extremely volatile currently, but we think it will be key to focus on the reaction function of governments and central banks going forwards, rather than on the headlines today. Aside from actions relating to specific banks, the most likely reactions now are slowing/stopping interest rate hikes and providing additional liquidity to markets, which is already starting to happen through the Federal Reserve Discount Window and the increase in US Dollar swap lines announced by the big central banks over the past weekend. If you believe, as many do, that liquidity is the predominant driver of equity market performance, then it is most likely going to become a positive influence once again in due course.
From an economic perspective the data will most likely take a turn for the worse soon, as banks become increasingly reluctant to make new loans, particularly in higher risk lending segments. Whilst not necessarily helpful, the key for us is that, courtesy of the extreme pessimism towards the economic outlook that has been prevalent for some time now, this is already more than reflected in the valuations of many very cyclical companies, particularly in the mid-cap area of the market.
Inevitably, bond yields have come down significantly during this latest scare, although it will be interesting to see what happens as and when the dust settles. Whilst inflation will most likely fall during the rest of this year, and interest rates may be at or close to peaking, we still think the structural forces that gave us a very low inflation world have changed significantly and, as such, we are more likely to remain in a c.3-4% inflation world going forwards not the c.1-2% world of the last 10 – 15 years. If that is the case, we are not convinced the right strategy will be reverting to the growth/quality theme that was so prevalent in the last cycle.
Given the speed and scale of the above events, it is not surprising that investor sentiment has shifted extremely negatively very quickly, and this will undoubtedly be creating opportunities in many areas, particularly where pessimism is the highest. Financial related stocks, for example, feel very uncomfortable to hold or buy right now, and there are interesting opportunities emerging as a result.
Finally, there are some potentially positive developments occurring that should not be ignored, most notably the significant fall in oil prices. This will offer further relief on the inflationary front and additional discretionary spending capacity directly to consumers’ pockets.
When it comes to managing our portfolio, our plan remains very much unchanged. We buy companies that we think look extremely attractive on a medium-term view and we do not worry overly about trying to predict or time when exactly in that period the market will come to recognise the upside potential. If, having invested, share prices fall significantly but our investment case is unchanged, then we simply buy more at even more attractive prices. This is exactly what we are doing with many of our holdings currently.
In our view, there is a tremendous amount of value on offer in the UK today, particularly in the mid-cap area of the market. We cannot promise the end of further bouts of volatility in the near term, but to us these will represent buying opportunities for the medium term, more than anything else.
Data source (unless otherwise stated): Bloomberg.
