Market Update: An Unenviable Task

US equity indexes were mixed on the week: S&P 500 +1.4 %, NASDAQ +4.4%, and DJIA -0.15%. Tech stocks benefitted as market participants recalibrated their Fed rate hike expectations to a lower interest rate path. The VIX Index is elevated at 25.3. The BoA MOVE Index, which measures implied volatility of one month treasury options, hit a high of 198 (a level not seen since Q4 2008) on Wednesday before retreating to 180 on Friday (still very elevated). The KRE (SPDR Regional Bank ETF) fell 14.6% on the week and the wider financial sector XLF (SPDR fund) was down 5.8%.

Late last week and over the weekend markets and investors dealt with the turmoil from the collapse of SVB and Signature Bank - both were placed into FDIC receivership and both will have their respective insured and uninsured deposits guaranteed. See March 12 joint statement by Treasury, Federal Reserve, and FDIC. __This week, First Republic Bank and Credit Suisse were the latest banks to signal stress. __

San Francisco-based First Republic was perceived to be similar in nature to SVB. Its shares fell heavily on Monday - down nearly 62%.

Mid-week, 11 US banks joined together to throw First Republic a lifeline. Using their own funds, the banks placed USD 30 billion in deposits at First Republic. According to WSJ article by Colin Barr, "JPMorgan, Citigroup Inc., Bank of America Corp. and Wells Fargo & Co. are each making a $5 billion uninsured deposit into First Republic. Morgan Stanley and Goldman Sachs Group Inc. are kicking in $2.5 billion apiece, while five other banks are contributing $1 billion each." Larger banks received an influx of deposits from regional lenders post the collapse of SVB and Signature so they decided to help shore up this regional lender, hoping to stave off a bank run. Despite the lifeline, however, First Republic's shares fell 33% on Friday and were down 71% on the week.

Turning to Europe, Shares of Credit Suisse ("CS") fell over 24% on Wednesday. CS's stock price plunge weighed on other European bank stocks and led the Swiss National Bank ("SNB") to declare that the bank was "systemically important." The SNB loaned CS, Switzerland's second largest lender, up to USD 54 billion. It is important to note that CS's troubles pre-dated the US bank troubles which started last week, but precarious market sentiment did weigh on CS. In particular, the CS share price started to fall in reaction to Saudi National Bank, its largest shareholder, saying it would not add to its CS investment due to regulatory rules. (More here in this WSJ article Caitlin McCabe and Josh Mitchell). As of Saturday, multiple news sources were reporting that UBS was nearing a deal to take over CS.

The SNB's backstopping CS cleared the way for the ECB to carry through on its well telegraphed 50bp rate hike on Thursday. The ECB, still hawkish, said "inflation is projected to remain too high for too long." However, in its policy announcement, the ECB abandoned its forward guidance moving to a data-dependent stance due to "elevated uncertainty." The ECB also said, "The euro area banking sector is resilient, with strong capital and liquidity positions."

__ Chart: KRE (US regional banks SPDR ETF ) and XLF (financial sector SPDR) fell heavily on the week despite backstops put in place.__

US data:

This week's US economic data took a back seat once again to turmoil within the banking sector.

US February CPI rose 0.4% m/m - on expectations. Core CPI came in a bit higher than expected at 0.5% m/m vs expectations of 0.4%. The measure the Fed has said it watches closely - core services ex housing ticked up from 0.3% m/m to 0.4% m/m.

After strong January results, February US headline retail sales fell 0.4% m/m as expected. Core retail sales were flat vs expectations of -0.1% m/m and the retail sales control group (the input to GDP) surprised to the upside, rising 0.5% m/m vs expectations of -0.3%.

U of Michigan sentiment fell to 63.4 for the March preliminary read from 67 in February. 1 year inflation expectations lowered to 3.8% from 4.1%. 5 year inflation expectations remain well anchored at 2.8%.

__Chart: US CPI and Retail Sales __

__Fed Pricing has been a rollercoaster: __

Fed funds futures have the peak in the terminal rate priced at 4.83% in May and have approximately 85bps of rate cuts expected this year. Contrast this to pricing last week on March 8 - the day before the SVB troubles came to light. On March 8, Fed funds futures priced the peak in the terminal rate at 5.69% in September and had only 13 bps of cuts priced by year-end. Quite a turn-around.

The FOMC members have an unenviable task next week. Inflation is still too high but cracks in the financial system have revealed themselves. That talk among market participants is "the Fed has hiked until they broke something" - ie the banking sector. There is much debate and little agreement on whether the Fed can sit this meeting out, taking a pause to assess financial stability. According to the CME's Fed watch tool, there is a 73% probability of a 25bp rate hike priced for next week's policy meeting and 27% priced for no change.

The combination of turmoil from inflation and banking sector stress is likely to be a multi-month issue. Despite back-stops, banking sector sentiment remains fragile. Financial market events can unfold in non-liner ways. It is likely that periods of sharp risk aversion could continue to appear throughout the year given the unusually aggressive nature of this Fed tightening cycle. This should support safe haven assets such as USD, gold, and the diamond commodity. See further comment here.

Turning to the Diamond Commodity:

DIAMINDX fell 0.2% on the week.

In diamond industry news, Signet Jewelers, owners of Zales, Kay Jewelers, and Jared released Q4 earnings. Net sales fell 5% y/y to USD 2.66 billion in the three months that ended January 28. That was slightly better than FactSet expectations. Same-store sales — at branches open for at least year — declined 9%, while net profit fell 12% to $277.3 million. Adjusted EPS came in higher than expected at $5.52 per share vs $5.43 expected. Bloomberg reports that "Wells Fargo raised its price target on Signet Jeweler's to $100 from $90 and kept an overweight rating on the shares." In an analyst note, Wells Fargo said "Signet's Q4 print was strong, including a solid Q4 bottom-line beat and an above-Street FY outlook." Signet's share price rose 3.7% this week. See Signet Jewelers CEO Gina Drosos talk about Q4 results and Signet's outlook here. She mentions the outlook for engagements in the US given the importance of diamond engagement ring sales to the diamond industry.

Gold gained over 5% this week - Its largest weekly gain since November. Gold was supported as both investors' flight to safety and USD weakness continued. On Friday, gold broke topside USD 1,950 to end the week at USD 1,964.

Silver rallied significantly, gaining 8% on the week, rising from USD 20.00 support to USD 22.27 at the time of writing. USD 22.23-22.32 is a resistance level.

Chart: DIAMINDX, Gold, and Silver YTD with the VIX Index. As the volatility spiked (VIX Index) , gold and silver gained. DIAMINDX held steady.

USD

USD was lower on the week. The DXY Index fell 0.5% to 104.12 at the time of writing. Support is 104.00 and 103.44 (50 day movg). The DXY Index continues to trade within its recent range. Safe-haven JPY was a strong performer vs. USD in the G10 this week, gaining 2.3%. Despite a 50bp rate hike by the ECB, EURUSD gained a moderate 0.3% as market participants weighed whether the rate hike was a policy error. CHF was the weakest currency vs USD give the Credit Suisse turmoil. CHF fell 0.8% vs. USD.

Chart: USDJPY vs US 10 year yield. JPY supported by decline in US government bond yields.

Ahead - select events:

__Next week's main event is the FOMC rate decision. __

Monday, March 20__

ECB's Lagarde speaks at Hearing before the Committee on Economic and Monetary Affairs (ECON) of the European Parliament in Brussels

Tuesday, March 21

Canada CPI (Feb), Germany ZEW (Mar)

Wednesday, March 22

UK CPI (Feb)

__FOMC rate decision and Fed Chair Powell press conference. __

Address by ECB's Lagarde at The ECB and its Watchers XXIII Conference

Thursday, March 23

Japan CPI (Feb)

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Disclaimer: This report has been prepared by the Strategy Team of Diamond Standard Inc. (“Diamond Standard”). This report, while in preparation, may have been discussed with or reviewed by persons outside of the Strategy Team, both within and outside Diamond Standard. While this report may discuss implications of legislative, regulatory and economic policy developments for industry sectors, it does not attempt to distinguish among the prospects or performance of, or provide analysis of, individual companies and does not recommend any individual security or an investment in any individual company and should not be relied upon in making investment decisions with respect to individual companies or securities.
Opinions and estimates offered constitute our judgement and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. Under no circumstances does the information contained within represent a recommendation to buy, hold or sell any security, and it should not be assumed that the transactions discussed were or will prove to be profitable.