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SPI Management Newsletter 24.03.2023

Implications of UBS's Rescue of Credit Suisse on Global Markets


UBS has agreed to acquire its struggling domestic rival Credit Suisse for 3 billion Swiss francs ($3.25 billion) in a move combining two major Swiss banks. Despite assurances from Swiss authorities and central banks about financial stability, this deal has not entirely dispelled concerns about systemic risks to global markets.


Years of losses, costly scandals, and the recent collapse of US-based Silicon Valley Bank and Signature Bank led to a decline in Credit Suisse's share price. The acquisition follows the Swiss National Bank's unsuccessful attempt to alleviate investor concerns with a loan of up to 50 billion Swiss francs.


Credit Suisse Chairman Axel Lehmann expressed his belief that the acquisition would bring lasting stability and security to clients, staff, financial markets, and Switzerland. The deal, expected to close this year, will create a banking giant with over $5 trillion in total invested assets and is supported by the Swiss government, financial regulator FINMA, and the Swiss National Bank (SNB), which will offer a liquidity line of up to 100 billion Swiss francs backed by a federal default guarantee.


Despite the optimism surrounding the deal, some analysts still have concerns about the details of the acquisition and its implications for the health of banks. The low acquisition price, only about 10% of Credit Suisse's market value at the start of the year, suggests that a significant portion of the bank's $570 billion in assets may be impaired or perceived as risky.


Additionally, Swiss regulator FINMA's announcement of a 16 billion Swiss franc write-down of Credit Suisse's Additional Tier 1 (AT1) bonds has raised concerns about spillover risk for global credit. This development calls into question the value of contingent convertible (CoCo) bonds and creates contagion risks. The unprecedented write-down may affect investor appetite for the AT1 asset class, which could have broader implications for global credit markets.


The Swiss government-brokered merger has investors evaluating UBS's prospects, with potential cost savings and increased market share outweighing concerns about integrating Credit Suisse and its balance sheet risks.



Investors Predict Fed May Stop Interest Rate Hikes Amid Banking Sector Concerns


Investors are now speculating that the Federal Reserve's recent interest rate hike may be the last in its campaign to combat inflation. Just two weeks ago, futures markets indicated expectations that the central bank's key rate would climb to 5.7% by summer.


However, the recent collapse of Silicon Valley Bank and Signature Bank, coupled with the merger of Credit Suisse and UBS, has forced a reevaluation of how much further the Fed needs to go in pursuing its policy objectives. Since the beginning of last year, the Fed has increased interest rates in the world's largest economy from near zero to a range of 4.75-5%, following its latest policy announcement on Wednesday. This is the highest rate since 2007.


Recent upheaval in the banking sector has raised concerns about more stringent lending conditions, as financial institutions are expected to increasingly retract credit lines to protect their own balance sheets. While markets do not rule out the possibility of another quarter-point rise in May, a hold followed by a series of cuts later in the year is now seen as the most likely scenario.


The anxiety surrounding the banking sector has already dampened banks' willingness to lend to businesses and individuals, resulting in an effect similar to that produced by higher interest rates. This trend is likely to persist, as US corporate debt and equity issuance have slowed over the past two weeks, and the market measures that quantifies bank funding stress, rose to their highest level in over three months on Wednesday.


Investors are particularly concerned about a significant slowdown in mortgage lending, especially in commercial real estate, which is primarily driven by regional banks. The reduction in bank lending is anticipated to tighten financial conditions in line with the Fed's objectives, potentially easing the pressure to continue battling inflation.


As financial conditions become more challenging for borrowers, the Fed may be less inclined to persist in its fight against inflation, possibly easing the pressure on financial markets that has persisted for the past year. The tightening of credit conditions introduces broader economic risk, leading to questions about the future of monetary policy.


Adapted from WSJ, Reuters, CNBC, NYT, Forbes

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