Bank Stocks Rally On Tuesday As Investors Ask – Why Are Banks Collapsing?

key takeaways

• Banks investors ran wild on Monday as the collapse of Silicon Valley Bank and Signature Bank
• Drawdowns were particularly heavy at smaller regional banks, with investors and deposit holders rushing to the exits of the larger banks.
• Tuesday saw somewhat of a turnaround as many of these stocks made a comeback

At the beginning of last week, our Slack channel was discussing the fact that it’s been a quiet week in terms of financial news. Then in the space of a few days, two banks collapsed and it looked like more could happen.

Be careful what you wish for!

And while Silicon Valley Bank and Signature Bank are no longer there, regulators have stepped in and ensured that depositors at those banks will be able to access their cash. It means companies can make payroll and pay suppliers, following an event that raised concerns about potential contagion across the wider banking system.

Even after the safety measures announced by the Federal Reserve and the FDIC, stock prices across the banking sector fell in Monday’s trading. Regional banks were hardest hit, with First Republic Bank down 61.83% and Western Alliance Bancorp down 47.06%, and larger banks like Bank of America (-5.85%) and Wells Fargo (-7.13%) weren’t immune to the volatility.

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Why are banks sinking?

The issues at Silicon Valley Bank (SVB) and Signature Bank could be framed to make up for the liquidity crunch. SVB has been the bank of choice for startups and their founders, while Signature Bank has become heavily involved in providing banking services to crypto companies in recent years.

As you might expect, this means that the customer base of these banks needs access to cash. With the tech sector facing massive layoffs and cost-cutting, and crypto being in an even worse situation, money was flowing in fast and flowing in very slow.

This becomes a problem for any bank, because the way the banking system works is through a process called fractional reserve banking. This means that banks do not have access to all their deposits at any given time.

The way they make profits is by lending or investing this money.

In the case of SVB, these funds were invested in long-term mortgage-backed securities. These investments themselves are of high quality, but they were purchased at a time when rates were at historic lows.

Bond prices move inversely to rates, meaning that when rates go up, bond prices go down.

It is important to understand how it works.

Say SVB bought $10 billion of 10-year mortgage bonds at 1.5%. At the same time, let us tell you that the 10-year US treasury rate is 0.25%. This means mortgage-backed securities are paying 1.25% more margin than the Treasury rate, because while mortgages are very safe, they are not as safe as the US government.

Now say the Fed hikes rates over the next 12 months, and the SVB can buy the 10-year US Treasury now yielding 2%.

Now imagine that SVB wants to sell its mortgaged bonds. Why would anyone buy them for $10 billion for a 1.5% yield, when they can buy a safe investment (US Treasuries) with the same yield?

Of course, they won’t.

So in order to sell your bonds to SVB, you would need to sell them at a price that puts that margin over the US Treasury at 1.25%. This means that the market cap of these mortgage bonds would be $4.61 billion to give the investor a yield of 3.25%.

For SVB, this means they are sitting on a huge paper loss. And that’s exactly what happened, but on a much bigger scale.

The thing to keep in mind is that these bondholders would get their capital back at the end of the term, so if SVB could have held their assets for a longer period, they would have continued to receive their interest and eventually received all of their capital. investment back.

Running a bank meant he didn’t have that luxury.

What’s happening to bank stocks?

It has been a complete rollercoaster. Last weekend and Monday saw massive declines across the board, but especially at smaller regional banks similar in size to SVB and Signature Bank.

Investors and deposit holders worried about the stability of smaller players such as First Republic Bank (-61.83%), Western Alliance Bancorp (-47.06%) and Zion Bancorp (-25.72%) turned to larger banks.

Even big bank stocks pulled back as concerns over the fallout from bank failures added to the selling pressure. JPMorgan Chase was down 1.8% on Monday, Bank of America fell 5.81%, Wells Fargo was down 7.13% and Citi was down 7.47%.

But Tuesday saw a major change as traders swooped in to pick up cheap stocks, fueled by confidence that the regulator’s new measures will keep the banking sector stable and safe.

Monday’s biggest losers became some of Tuesday’s biggest winners.

First Republic Bank was up 26.98%, while Western Alliance Bank was up 14.98%. But not all banks ended the day in the green. Zion Bancorp finished down 3.34% despite trading up 21.65% at the market open and Comerica was up 5% in the afternoon before ending down 0.81%.

It is likely that we will continue to see volatility come into play for the rest of the week. It could go on for much longer than that, depending on whether any new information comes to light around SVB or whether another bank comes under pressure.

Today news has come that credit rating agency Moody’s has placed American banks Under reviewGiven the high level of uncertainty around the sector.

Bottom-line

For investors, this could mean a challenging environment remains. No one wants to be on the wrong end of a banking stock that drops double digits in a single day. For investors, the main way to manage this risk is through diversification.

And it’s not just diversification among banks, but also across regions, countries and asset classes.

This means that whether it is a banking crisis, a microchip shortage, a technology crash or a supermarket supply chain problem, your portfolio will not be affected too much by any one issue or problem.

And if you really want to supercharge your portfolio management, AI could be your new secret weapon. At Q.ai, our AI-powered investment kit Provide adequate diversification for everyday investors.

take our Value Vault Kit, for example, which uses AI to analyze a wide range of investments to find undervalued companies with strong balance sheets and cash flows. It is value investing along the lines of the famous Warren Buffet with a modern AI edge.

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