Morning Toast March 21st

Jekyll and Hyde markets | Biden uses first veto.


The Jekyll and Hyde stock market is here. On the one hand, surging tech stocks pushed the Nasdaq to its best week since January last week. Conversely, global banks have shed $459 billion in market value this month alone, the Financial Times calculates, as the sector faces a growing crisis of confidence.

This week UBS agreed to take over the failing Credit Suisse as the next banking crisis starts to deepen and flash signs (albeit for different reasons) of the 2008 GFC...brought on in part by weak bank balance sheets and bond yields no longer providing a safe haven of “risk free” returns. 

Meanwhile, First Republic Shares crashed more than 46% in the U.S. after a downgrade in their credit rating. The U.S. bank may need to raise more funds despite the $30bn rescue deal announced last week. 

In the week ahead, we have another Fed meeting. Normally dull affairs, Wednesday will be packed with prime-time drama as the central bank’s plan to continue raising interest rates has the power to be upended by the banking sectors even further. Experts now say there’s a chance the Fed will pause its rate hikes to shield the banking sector from further chaos, but to what effect and for how long we do not know. What is increasingly clear is that the world is not ready to pull the post 2008 band-aid off just yet...these are some deep wounds yet to heal.

Quote of the Day

Quite nasty’ blow-ups lurk, warns Schroders boss. Peter Harrison, the head of the 200-year-old fund manager, says the market has not yet adjusted to higher rates – “the tide is going out, and we’re finding a few people without their trunks”.

Stock Spotlight

Another weekend, another mad scramble to prevent a banking crisis. We reported last week that Credit Suisse was on the ropes, brought on by some mixed reports from their main investors that spooked the markets. This week UBS (Credit Suisse’s bigger rival) has agreed to take over the stricken bank on a major deal that will have knock-on effects in bond markets, and has done little to calm investors' nerves. 

Swiss banking giant UBS will buy its rival Credit Suisse for over $3 billion in a historic tie-up of the country’s storied banks. It’s one of the most significant banking events in years, marking the first merger between systemically important global banks since the 2008 financial crisis.

Credit Suisse had experienced massive outflows last week (up to $10 billion per day, according to the WSJ) and was teetering on collapse. An uncontrolled implosion of Credit Suisse would have had “incalculable consequences for the country and the international financial system,” Swiss President Alain Berset said. In other words, if Credit Suisse came crashing down, it would have brought many others with it.

Understanding the market calamity that would’ve occurred otherwise, Swiss regulators essentially forced UBS to go through with this purchase and offered the bank $108.8 billion in liquidity as a way of saying “thanks for preventing a global financial crisis .”

For Credit Suisse, it’s an inglorious end. The iconic financial institution had been badly mismanaged for years, and its measly sale price reflects its fall from grace. Valued at $8.5 billion at market close on Friday, Credit Suisse sold for significantly less than half of that.

Just like U.S. authorities did last weekend, Swiss regulators moved rapidly to nip a spiralling crisis in the bud. It’s unclear whether these last-ditch government efforts will shore up confidence in a sector that’s had its world turned upside down in less than two weeks.

Sustainability News

On Monday, U.S. President Joe Biden rejected a Republican proposal to prevent pension fund managers from basing investment decisions on factors like climate change, in the first veto of his presidency.

"I just signed this veto because the legislation passed by the Congress would put at risk the retirement savings of individuals across the country," Biden said in a video posted on Twitter.

The bill cleared Congress on March 1, when the Senate voted 50-46 to adopt a measure to overturn a Labor Department rule making it easier for fund managers to consider environmental, social and corporate governance, or ESG, issues for investments and shareholder rights decisions, such as through proxy voting.

Douugh, did you know?

Managing Risk & Reward

The general rule is that to get a return on investment you must accept some level of risk, the higher the potential risk, the higher the potential return. Your challenge as an investor is to know what risk your investments have and how much you are prepared to accept. To help navigate that, think to yourself, what would it mean to you if the worst-case scenario occurred? 

Remember that risk and reward are not linear but are extremely subjective - the point where the risk outweighs the reward will be very different for every investor. That doesn’t mean it's not a valuable thought to keep when making decisions. 

There are two basic and well-known investment strategies that can help manage both systemic risk (risk affecting the economy as a whole) and non-systemic risk (risks that affect a small part of the economy, or even a single company). 

The first strategy is diversification, which can often focus on diffusing risk exposure. When you diversify, you divide the money you're investing across different asset types, global locations, risk profiles and more. In doing this, you're trying to create variety by spreading your assets around, basically not putting all your eggs in one basket. 

The second strategy is investment product allocation, which attempts to increase your reward. This essentially involves including different asset classes in your portfolio, like stocks, bonds, real estate and cash. Helping to increase the probability that some of your investments will provide satisfactory returns even when the others do not.

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Investing involves risk. You aren't guaranteed to make money, and you might lose the money you start with.

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