Markets last week continued to wrestle with banking sector weakness, the debt ceiling stalemate, and a mixed bag of economic data points. The S&P 500 closed the week down 0.29%, outperforming developed (-1%) and emerging (-2.13%) markets, leaving global equity markets up 8% YTD. Bond yields edged slightly higher with the 10yr UST closing at 3.46% while the USD clawed back a good percentage of its YTD losses, up 1.45% for the week. WTI drifted back down to the $70 support level again, joining industrial metals in taking the overall commodity complex lower on the week.

• Bank balance sheet stress, declining deposits, FDIC seizures, curtailed lending activity, and commercial real estate exposure amount to significant uncertainty surrounding policy, consumer/business confidence, and the overall economic outlook.

• Key banking system monitoring points are deposit outflows and loan/lease growth alongside credit spreads and bond market receptiveness to new issuance.

• The latest IMF Global Financial Stability Report highlighted the stark difference between U.S. and European bank stresses in terms of bond market-oriented balance sheet losses with exposure nearly 2x higher in the U.S. and losses as percentage of Tier 1 capital nearly 5x higher.

• BCA U.S. Political Strategists are assigning a 10% probability of a technical default on U.S. debt thanks to historically high political polarization which may introduce greater risks if the economy proves resilient. Regardless of default, the investment implication is clearly negative.

• MRB is maintaining a contrarian stance on recession highlighting a stabilizing housing market, the poor track record of a contractionary ISM Manufacturing Index, the manufacturing weighted and narrow variable LEI, and resilient unemployment despite the uptick in claims.

• While non-U.S. equities are up 18% in USD terms since the mid-October bottom, momentum has slowed materially over the past two months, defensive sectors have been outpacing the cyclicals, and higher beta geographies have underperformed the U.S.

• Economic data out of China including a sharp decline in aggregate financing and new loan issuance alongside weak PMI and trade data have supported the view of what looks like a lopsided and tempered recovery.

• The BoE met expectations by delivering a 12th consecutive rate increase, hiking rates by 0.25% to 4.5%.

• April’s headline and core CPI readings slowed as expected with headline and core readings of 4.9% and 5.5% respectively. MOM registered 0.4% for both headline and core, as forecasted.

• April’s headline and core PPI also slowed relative to prior month levels and came in below consensus on both headline (2.3% vs 2.5%) and core (3.2% vs 3.3%) readings.
• Initial jobless claims of 264k were well above the 245k consensus and the estimated range of 240k-250k, taking the four-week moving average to 245.5k. Claims are now 82k above the 1yr low in September of 2022.
• May’s U of M Consumer Sentiment survey fell sharply to 57.7, well short of consensus forecast for 63.0 and the prior month reading of 63.5.
• April’s NFIB Small Business Optimism Index deteriorated slightly to 89.0, just below the 89.7 spot consensus and at the low end of the forecast range (89.0-90.0).

Last week was relatively quiet as markets weighed a modest amount of economic data and digested the second week of the first quarter’s earnings reports. With big tech earnings and PCE inflation data on deck, markets may have been looking ahead. Equity markets have stalled out around the February highs with U.S. and developed non-U.S. markets pretty flat last week, now sitting up 8% and 12% respectively on the year. Bonds were weaker with interest rates moving slightly higher across the curve leaving the 10yr UST at 3.57% and both 3m/10yr and 2yr/10yr slopes still meaningfully inverted. Commodities traded lower with oil’s 5.6% decline taking WTI crude oil back below $80 and the USD appreciated 0.27% to bring its YTD loss down to -1.64%.

• First quarter earnings season update has a 76% beat rate and 5.8% beat margin with blended earnings of -6.2%. Top line revenue is seeing a 63% beat rate and a 1.8% beat margin with blended revenue of 2.1%.
• Second quarter earnings are forecasted to decline 5% by Q3 and Q4 are projected at +1.6% and +8.5% respectively for a full calendar year 2023 growth of +0.8%.
• Markets have quickly reversed rate pause and cut forecasts for later this year, now pricing an 89% likelihood of a 25bps hike on May 3rd. The 3-month T-bill hit 5.20% last week, its highest since 2001, and the forward curve (terminal rates) is now much closer to formal Fed projections.
• Bloomberg noted the BoA Merrill fund manager survey registered its most bearish reading since the GFC with a high cash allocation, a net 10% overweight to bonds, and a healthy 63% of respondents expecting a weaker economy.
• 3.5% of ECB rate hikes, tightening bank lending standards, and elevated inflation have the ZEW Survey of German investor sentiment looking low and deteriorating, similar to the U.S.
• In forecasting lower fuel prices, RBC Capital Markets noted global refining capacity is set to increase by 1.5mbpd in 2023 and 2.4mbpd in 2024, the largest two-year increase in 45 years.
• The U.S. tax deadline hit us all last week, a time when bank deposits typically drop by approximately $250b to pay the invoice. Weaker than expected tax collections of $108b on tax day last week may have pulled the debt ceiling debate into June.
• Bank deposit flight has slowed to a trickle but the expectation is that deposits will continue to leave the banking system until the gap between deposit rates and money fund rates closes.
• Bloomberg reported weekly loan volume (+$61b) and deposits (+$10b) with the 2023 deposit buildup to tax deadline obviously looking very different from prior years.
• With the exception of Japan and Australia, consensus 2023 growth is higher now than at the beginning of the year in every major economy. China reported YOY Q1 GDP of 4.5%, up from Q4’s 2.9% pace.

• U.S. March PMI data (C, M, S) registered 53.5, 50.4, 53.7 showing improvements on both manufacturing and services fronts.

• E.U. and U.K. March PMI data (C, M, S) registered (54.4, 45.5, 56.6) and (53.9, 46.6, 54.9) respectively.

• The April NY Fed Services Activity report showed healthy levels of business activity and clearcut disinflation trends but the overall business climate deteriorating to 2012 levels.

• April’s Housing Market Index registered 45, in line with consensus and a 1 point improvement over the March reading.

• March Housing Starts (1.420mm) and Permits (1.413mm) came in within consensus range after both readings jumped sharply higher in February.

• Existing Home Sales of 4.444mm in March were slightly under consensus estimate of 4.5mm.

Markets last week digested a highly anticipated beginning of Q1 earnings season, ample inflation data, and a look at the March FOMC meeting minutes along with a healthy dose of Fed speaking engagements. Risk markets breathed a sigh of relief generally speaking with encouraging reports from the banking sector and continued evidence of decelerating inflation pressures. The relief rally continued in global equity markets which were up 1% to 1.75% led by the cyclicals. Interest rates shifted higher on the week in a relatively parallel fashion leaving 10yr and 2yr yields at 3.52% and 4.08% respectively. Commodity markets were broadly higher with both oil and industrial metals catching a bid while the USD traded approximately 0.25% weaker, leaving it down 2% on the year.

• Earnings kicked off this week with a closely monitored initial burst of reports from the banking sector where money center banks outperformed on better than feared results while regionals struggled. Some strategists see more downside for earnings with a softening macro backdrop and persistent wage pressures.

• A very important consequence of declining bank deposits and more comprehensively, M2, is that banks create less new money by making loans and buying securities. Fewer deposits and tightening credit standards translate to less lending which is a prominent risk going forward.

• Fedspeak last week continued to reiterate a more hawkish tone than markets are expecting with markets currently pricing in nearly 200 bps in cuts over the next 18 months, beginning in June.

• Notable FOMC minutes anecdotes included ‘several participants’ advocating for a pause in March, banking sector turmoil would likely result in a mild recession later in 2023, and tangible concern about credit creation and bank lending.

• Last week’s friendly CPI report and very soft PPI report were offset somewhat by rising consumer inflation expectations seen in both UofM and NY Fed survey results, likely contributing to an upward move in May FOMC rate hike probabilities (25bps) to 78%.

• Data from S&P Global illustrate a worrying trend of increasing bankruptcy filings in the first three months of 2023.

• Wage growth data also fed the hawkish Fed narrative last week with Atlanta Fed Wage Growth Tracker accelerating from 6.1% to 6.4%.

• March headline and core CPI measured 5.0% and 5.6% YOY with 0.10% and 0.40% MOM readings. The March headline and core PPI measured 2.7% and 3.4% YOY with -0.5% and -0.1% MOM readings.

• March Retail Sales came in below expectations (-1.0% vs -0.4%) with readings on Ex-Vehicles (-0.8% vs -0.4%) and Ex- Vehicles & Gas of -0.3%.

• Industrial Production in March registered 0.4% versus 0.3% forecast with readings on Manufacturing Production (-0.5% vs -0.1%) and Capacity Utilization (79.8% vs 78.8%).

• April’s U of M Consumer Sentiment Survey registered 63.5 versus consensus forecast of 62.7.

• The March NFIB Small Business Optimism Index ticked slightly higher to 90.1, just above the consensus estimate of 89.0.

Markets put a bow on a week, a month, and a quarter last week by putting more distance between today and the mid-March banking turmoil. Large cap stocks are now trading at levels above pre-SVB marks while small caps (more financials and credit risk sensitivity) continue to struggle. Key events during the week included Congressional Fed testimony and typical post-FOMC week Fed speaking circuits alongside a relatively important economic calendar. The S&P 500 turned in a third consecutive weekly gain (+3.5%), with healthy March (+3.7%) and first quarter (+7.5%) gains as well. International developed markets also turned in a positive week (+3.9%), month (+2.4%), and quarter (+9%). Interest rates moved higher across the curve last week, likely correcting the sharp reaction to banking turmoil mid-month, while commodities rallied 4.5% and the USD weakened slightly.

• Is the 60/40 portfolio in comeback mode? March delivered gains for a fourth time in the past six months and closed out a second consecutive quarterly gain of approximately 4% for Q1.

• Mega cap (index heavy) growth stocks have continued to lead markets higher, driving large cap stocks back above pre- SVB levels while small caps, with a larger share of financials and more sensitivity to high yield credit spreads, have lagged significantly in March.

• Monitoring bank health metrics such as deposits, deposit ratios, and capital ratios is important. Additionally, monitoring Fed emerging lending programs to banks are showing Fed discount window borrowing fell $22b last week while BTFP rose $11b for a net $11b liquidity removal.

• Depositor behavior has clearly been pushing bank deposits into money funds wherein we see the increase in the Fed Overnight Reverse Repo facility matching money fund flows and the YTD decline in deposits almost exactly matching the move higher in money fund balances.

• The FDIC completed the bank carcass sales of SVB to First-Citizens Bank & Trust and SBNY to NY Community Bank with partial loss sharing and steep discounts of over 20% on loan purchases.

• Fed speakers (Barkin and Collins) and Congressional testimony from Vice Chair Barr left investors with some hawkish soundbites, finger pointing at inept bank management, and many questions surrounding how much the tightening of lending standards will dampen future growth.

• Goldman noted last week the industry composition of bank lending suggests a more cautious outlook for employment growth because leisure & hospitality and other service industries rely heavily on bank lending for funding.

• We’re at the important doorstep of first quarter earnings season where analysts have been busy lowering EPS estimates (-6.3%) by a larger than normal (3.8%) margin when you compare estimates from December 31 to March 30th.

• A big upside surprise in China’s service PMI reading of 58.2 versus 55.0 has investors hoping the reopening process will translate to a significant consumption boost.

• The February PIO (Personal Income and Outlays) report showed inflation slightly softer than forecast with YOY PCE headline and core inflation of 5.0% and 4.6% alongside MoM headline and core of 0.3%.
• The February PIO report measure of Personal Consumption Expenditures (+0.2%) and Personal Income (+0.3%) were both right in line with consensus.
• The final revision of 4Q U.S. GDP was revised downward from a 2.7% to 2.6% annual rate driven largely by a downward revision of 4Q PCE from 1.4% to 1.0%.
• Weekly jobless claims of 198k and the 4-week moving average of 198.25k both increased over the past week.
• The Consumer Confidence Index in March increased unexpectedly to 104.2, well above the spot forecast of 101 and an improvement over February’s reading of 103.4. However, the final revision of the U of M Consumer Sentiment index came down from 63.4 to 62.0.
• January’s Case-Shiller Home Price Index saw residential housing prices fall 0.2% MOM with a YoY change of +2.5%, below consensus forecast and in the low end of the range.
• Pending Home Sales in February increased 0.8% versus expectations for a 1.0% gain.

Markets continued to move erratically last week with the first clear casualties (SVB, SBNY) of this Fed tightening cycle on display all week. Because bank failures and bailouts aren’t enough, we saw ample geopolitical risk currents and clear evidence of P&L stress in some hedge fund circles adding some price- insensitive buying and selling noise to the fold. In short, we had markets trading on a significant amount of illiquidity and fear this week. By the end of the week, equity markets saw the S&P 500 net a 1.43% gain while small caps fell 2.64%. Developed and emerging international equity markets were down 2.14% and 0.61% respectively thanks in part to U.S. banking volatility jumping across the pond (Credit Suisse). Bond yields fell sharply in a bear steepener with 2yr yields cratering 0.79% and 10yr and 30yr yields falling 0.31% and 0.10% respectively. Oil prices fell nearly 13% taking WTI crude down to $66.74 while the USD weakened slightly given the recalibrated FOMC outlooks.

• As often said, the Fed will hike until something breaks and it seems banks have emerged as the first of those things with SVB and Signature Bank now occupying the second and third largest failures in U.S. history. Markets have moved quickly to recalibrate expected hikes.

• A look at the banking industry reveals several important considerations including that despite significant industry consolidation, small and medium size banks are significant commercial, consumer, and C/R real estate lenders – likely a primary reason why historically banking crises are often intertwined with global recessions.

• A critical issue addressed early last week saw the U.S. Treasury and Federal Reserve enable the FDIC to stand behind SVB and SBNY uninsured depositors. However, comments from Secretary Yellen on Thursday attempted to walk back the blank check concept for depositors.

• SNB and European policy makers brokered an emergency megamerger over the weekend with UBS acquiring Credit Suisse for approximately $3b. The Swiss government provided $9b in loan loss reserves. The SNB provided CSFB a $54b line followed by $100b to UBS to get the deal done.

• FRC received a vote of confidence with 10 national banks depositing $30b on the lender’s balance sheet for at least 120 days, likely putting the significant real estate lender in a position to meet depositors at the door with cash in hand.

• SVB is in a class by itself from a risk management perspective in that they seemingly had none. A look at the mark to market impact rising rates had on their reserves (bonds) is staggering.

• The record 2yr/10yr bull steepener we saw last week was historic (largest 3-day move since 1982) but it should be noted that reports of macro hedge fund Brevan Howard being forced to close out positions added real fuel to the fire.

• The ECB delivered an expected 50bps rate hike to 3.0% and in doing so, did a very good job buying time to assess the fallout of the U.S. banking situation and its leap across the pond.

• February’s headline and core CPI measured 6.04% and 5.53% YoY with 0.37% and 0.45% MOM readings. February’s headline and core PPI measured 4.58% and 4.40% YoY with -0.15% and -0-00% MOM readings.

• February Retails Sales fell 0.4%, just below forecasts for a -0.3% decline and on the back of a two year high 3.2% surge in January.

• U of M Consumer Sentiment came in short of consensus and fell from 67.0 to 63.4 in March.

• February MOM Housing Starts (+10%) and Permits (+14%) came in significantly above expectations.

• U.S. Industrial Production was flat 0% in February following a 0.27% January.

Markets last week were focused on Jerome Powell taking the mound with a relatively limited, but closely watched, set of economic reports – right up until we witnessed the second largest bank failure in U.S. history. A highly anticipated February jobs report and semi-annual FOMC Chair congressional testimony quickly took a back seat when a classic run on the bank took down Silicon Valley Bank in the back half of the week. Market reactions to the anticipated and unanticipated events during the week amounted to sizable 5%- 8% losses in U.S. equity markets, effectively wiping out all of the gains in 2023. Non-U.S. (-3.15%) and emerging (-4.3%) equity markets held up relatively better with a surging/softening USD ending relatively flat on the week. Strong demand for U.S. treasury bonds took interest rates down sharply across the curve pushing the 10 yr UST yield from 3.97% down to 3.70%.

• Silicon Valley Bank (‘SVB’) failure was unquestionably the biggest news last week as one of the most storied early stage (VC) oriented banks experienced a classic bank run bringing the lender to its knees. As of Friday’s close, the broader market context remains unclear but a domino effect in the near term remains a key concern.

• The highly anticipated jobs report, while mixed, was generally positive for markets with job creation exceeding expectations but this ‘good news’ anxiety was somewhat offset by ‘bad news’ relief of an increasing unemployment rate and soft hourly earnings and hours worked.

• Powell delivered his semi-annual monetary policy report to the Senate Banking and House Financial Services Committees last week where he signaled more rate hikes to come and reiterated the FOMC policy course will be data driven as they move forward.

• Beyond the obvious SVB related volatility, the recent market swoon is primarily associated with pricing in a higher for longer policy from the Fed. The terminal rate has increased nearly 50bps in recent weeks with pricing for a 50bps hike in March rising to 68.3% by the end of the week.

• The inverted 3mo/10yr yield curve may be the most alarming recession predictor but as Jonathan Golub, US equity strategist at Credit Suisse Group AG, pointed out last week in every instance the recession didn’t start until the slope began to steepen and timing varied widely.

• Bloomberg made note of the record pace ($261b) of stock buybacks to begin the year with JP Morgan pointing out two thirds of that figure is spread across only five companies.

• Now over one year past the Russian invasion of Ukraine, it is remarkable that natural gas prices in Europe are below pre- invasion levels which can be largely attributed to a relatively mild winter and aggressive efforts to ramp up storage.

• The oil & gas capex cycle has turned up sharply with the EIA reporting U.S. producers have increased E&P spending by 36% YOY. Importantly, hawkish central bank policies represent a risk to the aggressive spend cycle happening across the energy sector.

• For those unaware, Wall Street did of course pay someone millions of dollars to manufacture a clever alternative to the ‘TINA’ term, deeming ‘TARA’ the new world order. The truth is comparing stocks to treasuries is misguided if your return horizon is around 10 years.

• China’s annual legislative session opened last week and while Covid reopening initiatives bring hopes of increasing consumption and growth, the Party seems more focused on hawkish national security and maintaining relatively tight economic policy (underwhelming stimulus).

• The February Employment Report tallied 311,000 jobs, above the spot consensus of 223,000 but within the forecast range of 160,000-325,000. The Unemployment rate increased more than expected (2bps) to 3.6% as did the Labor Market Participation rate (1bps) of 62.5%. Average Hourly Earnings of 0.2% MOM and 4.6% YOY were both 1bps softer than consensus forecast.

• January’s JOLT Survey reported 10.824mm, above the 10.6mm forecasted but down from the prior month reading of 11.234mm. Quit rates declined but remained very elevated thanks to high wage increases being captured by changing jobs.

• Factory Orders in January declined 1.6%, relatively in line with the expected 1.8% decline and in the middle of consensus forecast range of -1.0% – -3.7%.

Markets digested more economic data last week and a parade of Fed speaking engagements, ending with a nice move higher Friday to post decent gains for the week across U.S. (+2%), developed international (+2.7%), and emerging markets (+3.25%). Gains were broad based across the cyclicals while most defensive sectors lagged (healthcare, utilities, staples). The yield curve became further inverted with shorter maturities
(3mo + 5bps, 2yr +8bps) rising more than the long end. The 10 yr UST briefly crossed 4% but closed just under that key psychological level by week’s end. Commodities were up over 3% thanks to a rally in oil which fell just short of $80 to close the week. The USD softened 0.66% on the week thanks to pro-risk sentiment and some elevated inflation readings in Europe.

• Bond markets last week continued to move toward pricing in a more hawkish second half 2023 of monetary policy with economic data highlighting robust consumption in services and persistent survey based pipeline price pressures.

• The direction of core PCE and resulting monetary policy is widely accepted as the most important factor when attempting to forecast financial markets for the remainder of 2023 through inflation data trends, economic models, and survey-based data.

• Inflation may be the bigger risk to 2023 than recession with forecasts for economic growth, a well-capitalized and well- paid consumer, and expanding and readily available consumer credit.

• A quick look at sentiment measures shows fund managers remaining very underweight equities, individual investors feeling better but still short of net bullish, and overall consumer sentiment (U of M, Conf Board) improving but still depressed.

• An Alpine Macro research paper last week on the labor crisis highlighted multiple contributing factors including aging demographics, declining immigration, and a labor market mismatch – all in motion well before the pandemic with immigration seemingly the only valid solution.

• A Bloomberg article last week highlighted the rapidly fading SPAC fad noting the frequency of SPAC IPOs folding in bankruptcy or quietly wound down for cents on the dollar.

• The decline in money supply means much less since the FSRR Act passed in 2006 authorizing the Fed to pay interest on bank reserves, first used in October 2008, effectively severing the link between money supply and the price of credit.

• One notable data point on Russia’s relaxed concerns about giving China leverage over its economy is the share of Russian exports paid for in yuan rising from 0.4% to 14% since the beginning of the invasion of Ukraine.

• The February ISM Manufacturing Index registered 47.7, in line with the 48.0 spot forecast and within the consensus range of 47.0-49.0. The February ISM Services Index registered 55.1, in excess of the 54.5 spot forecast and within the consensus range of 53.0-55.5.

• ECB inflation data in February surprised to the upside similar to January’s readings in the U.S.

• The January Durable Goods Orders reported New Orders (-4.5% vs -4.0%),
  Ex-Transportation (0.7% vs 0.0%), and Core Capital Goods (0.8% vs -0.1%).

• January Pending Home Sales were up 8.1%, well in excess of the 1% forecast and consensus range of -1.3%-1.3%.

• December’s Case Shiller Home Price Index declined -0.5% MoM, right in line with consensus, and posted a YoY increase of 4.6%, slightly below the 5.3% spot forecast.

• The resilient economic backdrop and persistent inflation since Powell’s press conference on February 1st has driven a pronounced shift higher in yields across 6-months, 2-year, and 10-year maturities, impacting bond markets, equity market multiples, and overall financial conditions.

• Markets are actively pricing in changing expectations toward the formal Fed forecasts for rate hikes on a go forward basis with the terminal rate of 5.37% now expected to be reached in August 2023. Based on constant 3m forward segments, the terminal rate is over 5.52%.

• One model anecdote supporting the improving Q1 growth backdrop is that the Atlanta Fed GDPNow model has grown from its initial January estimate of 0.7% to +2.7& most recently. Contrary signals include the yield curve inversion, housing market, and trends in the U.S. LEIs.

• A revision to the U of M consumer sentiment reflects further improvement in consumer sentiment toward the economy but B of A fund manager sentiment remains historically low and equity funds (retail investors) saw their biggest outflow in seven weeks last week.

• Federal Reserve data on U.S. household debt service show mortgage debt service, while increasing, remains near 20- year lows while consumer debt is at its highest levels since 2008 with delinquencies steadily on the rise since early 2022.

• With geopolitics seemingly in a constant state of anxiety, a SIPRI look at the world’s two largest arms dealers, with Russia representing 22% of global exports and the U.S. 35%, shows exactly who needs us (KSA, Aussie, South Korea, UAE) and them (India, China, Algeria) the most.

• Preqin noted the difficult market for public technology stocks translated to a ripple effect in venture capital fundraising with Q422 registering a nine year low in fundraising.

• • The January PIO (Personal Income and Outlays) reported accelerating and above consensus YoY PCE headline and core inflation of 5.4% and 4.7% alongside MoM readings of 0.6% and 0.6%.

  • The January PIO report showed strong Personal Consumption Expenditures of 1.8% and Personal Income growth of 0.6%.

  • U.S. PMIs (C,M,S) for February of 50.2, 47.8, 50.5 improved over the prior month and came in slightly (manufacturing) and well (services) above the consensus forecast.

  • Global PMIs (C, M, S) for February of 50.2, 47.8, 50.5 were higher than forecasted across the board and improved notably over January’s readings with Europe registering particularly strong.

  • The first 4Q U.S. GDP estimate came in at 2.7% versus consensus of 2.9%, squarely within the street forecast range of 2.5%-3.0%.

  • Existing Home Sales declined -0.7% in January to 4mm, coming in below consensus forecast but well within the low and high end of the range.