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Banking Crisis Eases as AT1 Bondholders Reassured

By Marc ChandlerMarket OverviewMar 21, 2023 06:17AM ET
Banking Crisis Eases as AT1 Bondholders Reassured
By Marc Chandler   |  Mar 21, 2023 06:17AM ET
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The banking crisis is ebbing. The Bank of England and European Central Bank assured investors that the AT1 bonds are senior to equity claims, and Switzerland is a unique case. Bank share indices in Europe and the US rose yesterday, even though the shares of First Republic Bank (NYSE:FRC) fell by 47% yesterday. The $ 123 stock at the end of last month reached almost $11 yesterday. It is trading around $14.75 pre-market. 

Global equities are building on yesterday's recovery. The large markets in the Asia Pacific traded higher, led by more than a 1% gain in Hong Kong and China's CSI 300. Japan's markets were closed and may play catch-up tomorrow. Europe's Stoxx 600 is up 1.35%. If sustained, it would be the first back-to-back gain in two-and-a-half weeks. US S&P and Dow futures are up around 0.5%, while NASDAQ futures are trailing a little. Bond yields are bouncing with European benchmark rates 5-9 bp, with peripheral yields up less than core rates.

The United States 10-Year Treasury yield is up four basis points to 3.53%. The greenback is mixed. The Antipodeans and yen as the heaviest, off 0.5%-0.9%, while sterling is also seeing its wings clipped after rising to its best level since early February yesterday. The Scandis are leading with 0.4%-0.5% gains. Central European currencies and the Mexican peso are among the strongest in today's emerging market complex. Gold is retreating after punching through $2000 yesterday. It is below $1970 in European turnover. May WTI recovered smartly from the push below $65 yesterday to close near $67.80. Follow-through buying today is pushing closer to $68.70. The high at the end of last week was almost $70.

Asia Pacific

The day after the Reserve Bank of Australia delivered a quarter-point hike on March 7 (to lift cash target rate to 3.60%), the futures market discounted about a 45% chance of another quarter-point move at the next meeting on April 4. The recent data include virtually unchanged consumer inflation expectation (5.0% in March vs. 5.1% in February) and a strong labor market report (almost 75k full-time jobs, more than the previous four months combined) and a small increase in the participation rate. Nevertheless, the implied yield in the futures market is all lower than the current cash target. The minutes from the RBA meeting confirms what the market suspected. The central bank will "reconsider" a pause to allow time to assess the outlook. It did not rule out further hikes, but the market did. Until today, the shift in interest rate expectations had not weighed on the Australian dollar. It forged a shelf around $0.6565 March 8-10 and pushed slightly above $0.6740 yesterday, a nearly two-week high. It has retreated today toward yesterday's lows (~$0.6665).

The New Zealand dollar is faring bit better than the Aussie this month, even though its poor GDP reported last week (Q2 -0.6% quarter-over-quarter vs. median forecast in Bloomberg's survey for -0.2%). It rose to a four-week high yesterday, a little above $0.6300 after bottoming earlier this month around $0.6085-90. It is the weakest of the major currencies today, off about 0.9%. Before the GDP figures, the market was pricing the risk of another 50 bp hike, like the central bank delivered in late February. However, the swap market now sees a little less than an 80% chance of a quarter-point move when it meets the day after the RBA (April 5). Separately, New Zealand reported a narrowed trade deficit for February (~NZ$714 mln vs NZ$2.11 bln in January). Exports slipped a little but, on a month-over-month basis rose 1.2% to China, 6% to Australia, 1.8% to Japan and 11.1% to the US. 

Japan's markets were closed for the spring equinox but rising US rates is helping lift the dollar from one-month lows seen yesterday near JPY130.55 to JPY132.25 in Europe. Yesterday's high was closer to JPY132.65, and above there a band of resistance is seen between JPY132.85 and JPY133.35. The Australian dollar is trading heavily near yesterday's lows and a break could see a test on the $0.6600 area. The intraday momentum indicators are stretched in the European morning and a bounce could retest the $0.6700 area. The greenback is virtually unchanged against the Chinese yuan around CNY6.8770. It is well within the recent range (~CNY6.85-CNY6.90). The PBOC set the dollar's reference rate a bit lower than expected (CNY6.8763 vs. CNY6.8798). Month and quarter-end pressures lifted the overnight repo rate to 2.46%, the highest in two years. Overnight borrowing costs also spiked in Hong Kong.


EMU banks were roiled by the Swiss decision to wipe out the CHF16 bln of AT1 bonds, which typically have seniority over equity investors. AT1 bonds are the riskiest and were introduced after the Great Financial Crisis as an additional financial cushion. They are also known as contingent convertible bonds ("CoCo") because many can convert into equity when the bank is stressed. The CS AT1 bonds were not convertible. European regulators, Bank of England, and the ECB were critical of the Swiss decision and sought to reassure that Switzerland was a unique case. The Stoxx 600 bank index recovered from a drop of around 6.5% to close almost 2.0% higher. It is nearly 4% higher today. The Invesco AT1 capital ETF fell 5.7% yesterday and is up nearly 2.6% today. 

The cross-currency basis swaps were not indicating that dollar funding was difficult to secure. The Fed's decision to offer one-week swaps daily instead of weekly seemed like a preemptive more rather than reacting to market pressures. Yesterday's small take-up lends credence to our suspicions. Two Swiss banks took $101 mln at 4.94%. There was no interest at the last weekly operation on March 15. There was one bank in the eurozone that bid for dollars, and it was allotted $5 mln. On March 15, there were four eurozone banks who took about $470 mln. The Bank of England and the Bank of Japan reported no bids.

After closing firmly yesterday, the euro has edged a little higher today, reaching $1.0750, unperturbed by the weaker-than-expected ZEW investor survey. Recall that the euro has remained within last Wednesday's range and is now approaching that high (~$1.0760). So far, it is held above $1.07, and if sustained, it would be the first day since February 14. Still, with intraday momentum indicators stretched, it may not be able to extend its gains much in the North American session. Note that the French government survived two confidence votes yesterday, allowing President Macron's unpopular pension reform to be adopted. Sterling reached its best level since February 2 yesterday near $1.2285. It has come back offered today but consolidating above $1.2230. It looks set to rechallenge the highs in North America. The easing of the banking crisis could see speculation about a rate hike Thursday increase. The swaps market sees a 50% chance now, ahead of tomorrow's CPI.


The KBW bank index stabilized. Both Friday and yesterday it traded within the broad range set last Thursday, March 16. Yesterday, it traded inside Friday's range and settled on session lows. Shares of First Republic Bank fell by 47.3% after collapsing nearly 72% last week. The market is also feeling a little more comfortable with the Fed delivering a 25 bp tomorrow. The Fed funds futures puts the odds near 75%. That is up from 60% before the weekend. The futures market is less aggressive in terms of rate cuts as well. After this week's meeting, the FOMC meets in May, June, and July. There is no meeting in August, which means that the August contract offers insight into the outlook for these meetings. Before the weekend, the August Fed fund future implied rate of roughly 4.25% and is now near 4.55%. A quarter-point hike tomorrow will take the upper end of the Fed funds target range to 5.0%.

Today, the US reports February existing home sales. The median forecast in Bloomberg's survey projects a 5% gain, which would be the first increase since January 2022. In January 2022, existing home sales at a seasonally adjusted annual rate were 6.34 mln. In January 2023, existing home sales were 4.0 mln. The Philadelphia Fed's March non-manufacturing survey will also be released. The diffusion index was negative from August 2022 through January. February's recovery put the index at 3.2, its highest since last May.

Canada reports February CPI figures today. A strong headline rise is expected (0.6%), but owing to the 1.0% rise last February, the year-over-year rate will fall toward 5.5% from 5.9%. It peaked last June at 8.1% and was at 5.7% in February 2022. The Bank of Canada puts more weight on the underlying core rates and the average may have slipped below 5%. The Bank of Canada announced a conditional pause in its tightening in late January and the market has full priced in a quarter-point cut by early Q3 and 50 bp by the end of the year.

The US dollar settled below its 20-day moving average against the Canadian dollar for the first time in a month yesterday. There has been no follow-through greenback sales, and it is still hovering around the moving average (~CAD1.3675). There are around $550 mln CAD1.3690-CAD1.3700 options that expire today. A break of CAD1.3650 would target CAD1.3600. Amid the financial stress, the US dollar briefly traded above MXN19.23 yesterday, but as tensions eased the greenback was sold back to MXN18.80. Today, it has tested MXN18.70, perhaps encouraged by the activity around the $455 mln expiring options at MXN18.77 today. The intraday momentum indicators are stretched, and the dollar is likely to find support ahead of the pre-weekend low near MXN18.65. Still, the combination of carry and the near-shoring/friend-shoring meme makes the peso attractive after the recent shakeout. 

Banking Crisis Eases as AT1 Bondholders Reassured

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Banking Crisis Eases as AT1 Bondholders Reassured

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Shawn Mar 21, 2023 7:38AM ET
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