Stock market gains despite bank panic. Why the storm continues.

For the stock market, the forecast envisages thunderstorms with a chance of a crisis.

Stocks have alternated between sharp rallies and sharp declines over the past week amid a series of bank explosions and attempts to shore up the financial system. The movements on the bond market and in interest rate futures were even more extreme.

Volatile trading reflects a crisis of confidence among investors – both in the ability of troubled lenders to withstand outflows of customer deposits and in the outlook for the stock market and the economy. Curiously, however, the S&P 500 index ended the week up 1.4%, while the Nasdaq Composite gained 4.4% as stocks like Apple (Ticker: AAPL) and Microsoft (MSFT) benefited from a flight to safety and falling bond yields boosted growth stocks . Only the Dow Jones Industrial Average ended the week lower, falling 0.15%. It was the first week the Nasdaq was up at least 4% and the Dow was down since 2001.

While not reflected in the headlines, the lingering concern is that the interventions by financial regulators on both sides of the Atlantic – and even by the banks themselves after a consortium of financial institutions bailed out First Republic Bank (FRC) – are a fair one Game of Whac-A-Mole, reactive one-time solutions when individual problems arise. You still have the feeling that something is still going to break – and that it might not be as quick and easy to fix.

The turbulence is a consequence of the shift from the previous era of rock-bottom interest rates and subdued volatility to an environment of higher interest rates and a more unstable situation. For much of the past decade, long-term, low-yield investments have been the trend as long as they offer more yield than shorter-term alternatives. But those “carry trades” — the term for borrowing at a short-term rate to lend at a higher, longer-term rate — are a much tougher sell after the federal funds rate rose to nearly 5%.

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“We believe that many carry trades will be under pressure and it will not be possible to stop them all,” wrote JP Morgan’s Marko Kolanovic last week. As an example of an attractive investment in a world of zero interest rates, whose problems become clear with rising interest rates, he refers to commercial real estate – which is fundamentally under pressure due to e-commerce and the shift from working from home. The low-cost funding has also been a huge tailwind for private equity and venture capital business models, which may also come under pressure. Even credit card and auto loans haven’t fully adapted to a higher-interest-rate world, and lenders there could be vulnerable.

“As the economy slows and funding costs rise, all of these implicit or explicit carry trades will be pressured to unwind, resulting in an end-of-cycle,” Kolanovic wrote.

And that relaxation can be messy for financial markets. The Cboe Volatility Index, or VIX, jumped to nearly 30 points this past week after hovering around 20 for most of the previous three months. The sudden surge has propelled the Cboe VVIX Index – yes, there is an index of volatility of volatility – to levels not seen in a year, after falling to its lowest level in more than seven years in early March. It’s enough to give any investor whiplash, especially since the risks are so difficult to quantify and could go either way.

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“Volatility was elevated for much of the last year, but the risks were somewhat ‘known’ (mainly inflation and recession),” wrote Christopher Jacobson, a strategist at Susquehanna International Group. “Now the introduction of the banking crisis has created a new unknown that could ultimately mean a sharper spike in volatility (if worse than expected) or a quick respite (if fears prove unfounded).”

The bond market was even more volatile. The ICE BofAML MOVE index — a VIX for bonds — soared to its second-highest level last week, only behind 2008 after doubling from its February low. This reflects the dramatic movements in government bond yields, considered the safest and most stable asset. The US 2-year Treasury yield has fallen 1.2 percentage points to 3.85% since March 8 when it was above 5%. This trading leg included the largest one-day drop in the two-year yield since 1982.

Yield volatility is a symptom of traders trying to obstruct the path of central bank monetary policy from here, which seems like an impossible task. Just over a week ago, Fed Funds interest rate futures pricing implied an 85% chance of the 2023 reference rate ending somewhere between 5.25% and 6%, versus the current target range of 4.5% to 4.75% . Today, the rates imply a year-end fed funds rate of between 2.75% and 3.25%. Expectations have quickly shifted to a lower and nearer peak and further cuts in the second half of the year.

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As for next Wednesday’s Federal Open Market Committee decision, the biggest odds implied by futures markets are trending up 0.25 percentage points with about a one-third chance of nothing changing. Before the crisis of confidence, the debate was whether the FOMC would rise by a quarter or a half point.

Recent inflation and other economic data point to a rise, while bank explosions suggest a pause might make sense. What officials ultimately decide will depend on what happens before then. “If tensions remain, more banking troubles on the horizon, etc., don’t go,” wrote Tom Porcelli, chief US economist at RBC Capital Markets. “When things settle down a little bit, they will leave. This is the decision tree for the Fed. In many ways it will be a game changer for them.”

Expect the market storm to continue.

write to Nicholas Jasinski at


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