Traders seek cover as US banking woes fuel demand for Haven


(Bloomberg) – Treasury bonds soared and stocks tumbled as signs of distress at a California lender sparked broader concerns about US banking sector debt levels.

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US and European bond yields fell to their lowest levels in weeks as traders bet any bank turmoil could reduce the Federal Reserve’s ability to raise interest rates further. The Stoxx Europe 600 index has fallen the most since December, led by bank stocks, with the cost of protecting against corporate defaults rising the most this year.

Markets are nervous about the possible fallout from Silicon Valley Bank — a small tech-focused lender — which has suffered significant losses on a portfolio that includes US Treasuries and mortgage-backed securities. This sparked a global sell-off in equities, with investors now turning their attention to risks that may lurk in other financial institutions following the Fed’s steep rate hikes.

“General banking concerns could challenge the pace at which the Fed can raise rates,” said Christoph Rieger, head of fixed rate strategy at Commerzbank AG.

Traders reduced bets on the scope for further Fed policy tightening, which has undermined the value of holding Treasuries. The probability of a half-point increase this month has dropped to 50%, down from 75% before. Money markets are now pricing in a total of 91 basis points increase through July, compared to 112 basis points on Wednesday.

This drove 10-year government bond yields down as much as 11 basis points to a three-week low of 3.80%. Yields on 10-year German government bonds also fell by as much as 17 basis points as markets eased bets on a peak in the European Central Bank’s final interest rate below 4% for the first time this month.

One bank fails, another wobbles, and Wall Street ponders a crisis

While U.S. stock futures on Friday pointed to only a muted decline, shares in Silicon Valley Bank plunged 36% in U.S. premarket trading after shedding 60% on Thursday. Silvergate Capital Corp. also contributed to the bad mood. which plans to cease operations and go into liquidation after the crypto meltdown weakened the company’s financial strength.

“The setup from the USA ensures a gloomy start to trading this Friday. Investors have been shown very clearly what rate hikes can do to the economy,” said Frank Sohlleder, market analyst at ActivTrades.

In Europe, the Stoxx 600 Banks Index fell as much as 4.9%, its biggest drop since June. Germany’s Deutsche Bank AG and Commerzbank AG posted the biggest losses, with the former falling more than 9%, while Credit Suisse Group AG hit another record low.

However, Oliver Scharping, portfolio manager at Bantleon, says there is limited overlap for European banks. If the sector remains under sympathy pressure over the next few sessions, contagion could be an opportunity to increase exposure, he said.

“While I’m probably getting some Bear Stearns ’08 vibes and liquidity is disappearing across the board, it doesn’t yet feel like a systemic issue,” he said.

Risks within the US banking sector emerged just ahead of Friday’s monthly jobs report, a key figure in the prospect of further rate hikes. Economists are forecasting a 225k rise in February payrolls, about half the blockbuster pace of January, and a weaker read could further tilt expectations for a quarter-point Fed hike.

“The continued concerns about SVB would set a fragile stage for NFP’s important release today,” said Mohit Kumar, interest rate strategist at Jefferies International. “A higher than expected number would exaggerate the market reaction in equities; while a weaker reading would exaggerate the market reaction on rates.”

Far-reaching effect

A measure of European bank stress in funding markets has risen to its highest level since April 2020. The effects can also be clearly seen in loans. Insuring a basket of junk bonds worth €10 million ($10.6 million) for five years now costs about €418,000 annually, up from less than €400,000 at close of business Thursday.

The hedging of bank bond baskets is also becoming more expensive. The subordinated financials sector is the only part of the euro-denominated high-quality securities market where spreads widened on Friday, based on data compiled by Bloomberg.

Meanwhile, most contingent convertible bonds, the riskiest type of debt issued by European lenders, have suffered price declines. A note from Credit Suisse Group AG denominated in Swiss francs is down 0.9 points to 72.3 percent of the face value.

“By disclosing its weakness, SVB has opened Pandora’s box,” Arnaud Cayla, deputy CEO at Cholet Dupont Asset Management, told clients in a statement.

–Assisted by James Hirai, Tasos Vossos, Ksenia Galouchko, Julien Ponthus, Giulia Morpurgo and John Viljoen.

(Updated continuously.)

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