The events taking place in the banking sector are having ripple effects throughout the entire financial markets. With a potential recession already on the radar, regional bank failures will only increase the volatility in the markets and possibly alter the policy path of the Fed. Peter Sackmann, a director and member of the investment review team at Davis Advisors, has years of experience dealing with challenging market environments. He joins the ETF Think Tank to offer his views on what’s happening today.
Sackmann explains that the biggest issue the market is trying to figure out is whether this is a micro or a macro issue. The speed at which things are happening is historic. During the financial crisis, it took months to see a response from banks and regulators. Today, the response is happening in days. Silicon Valley Bank and Signature Bank originally looked safe at a high level, but investors were clearly caught off guard.
He does, however, believe that the market is reacting rationally to current conditions. One good thing that is happening is the markets are trying to draw distinctions between entities instead of painting the industry with broad brush strokes. The initial selling in risk assets might have been overdone, but it may be presenting investors with some good values out there. He suggests sticking with investment managers and advisors that know the financial sector space well.
We saw a big duration mismatch occur during a weird time. What are the risks going forward? Sackmann says that the duration mismatch can be solved, but we don’t know if it will be market or government directed. Fed interest rate changes could change the landscape, but it’s going to be a slow-moving process.
One thing that Sackmann finds encouraging is the coordination of efforts to support the entire banking sector. A consortium of banks swooped in to help First Republic. Most banks realize that the health of the entire financial system should come above all else. Without the trust factor, there is no real distinction between the big banks and the smaller regional ones. This environment reminds him more of 1998 with Long Term Capital than the financial crisis. We’re not talking overleverage and it should be manageable in context.
Sackmann notes that the trend has been towards consolidation in market structure within the financial sector. Market share of big banks worldwide tends to be much larger. There probably will be some changes in lending coming. He’s not surprised with the magnitude of backstopping. The ECB’s 50 basis point move is a big statement. That’s usually not the action of a bank in trouble.
Other key takeaways:
- Inflation is the Fed’s focus, but the other twin mandate of unemployment may need to take focus soon.
- Sackmann does not understand how management teams at SBV and Signature could have missed the duration mismatch on their books. It is wild to him that this wasn’t factored into balance sheet management.
- Sackmann says that Davis’ regional exposure is very surgical. They currently like reinsurance and diversified financials. There has been differentiation between the best and worst.
- In commercial real estate, the biggest factors will be employment and distribution of unemployment. The markets that are most overheated will get hit first and hardest.
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