Financial News Digest May 5 2023: Another 0.25pp Hike Rate Raising Concern Over US Recession

Attention is turning to the FOMC meeting on Wednesday this week. As expected, the Fed has raised the interest rate by 0.25 percentage points. Meanwhile, the US debt crisis is facing a deadlock due to disagreements between Republicans and the White House. First Republic banks fell on Monday and were taken over by J.P. Morgan, indicating that the banking crisis is far from over.

Another 0.25 percent hike rate was announced on Wednesday

The Fed raised interest rates by 0.25% on Wednesday, marking the tenth hike of the cycle and raising the benchmark funds rate to between 5% and 5.25%. It's worth noticing Fed Chairman Jerome Powell's phrasing, which suggests that the central bank appeared to moderate its stance for another interest rate hike in the coming year by removing a line on "additional policy firming" from the prior statement. In other words, the Fed is expected to maintain current interest rates for the rest of the year.

How did the market react to the rate hike?

Following the Fed's press release, the Dow Jones Industrial Average fell by 245 points, while the Nasdaq dropped around 0.3% and the S&P 500 fell by 0.5%.

Investors had been anticipating that this would be the final rate hike of the year, which should be positive news. However, attention has turned to Powell's comment that the rate-setting committee believes that inflation will not come down so quickly. This means that the economy will need to stay at high interest rates for some time, raising concerns that such high rates could lead to an economic recession in the US.

Federal Reserve interest rate hikes since March 2022

Here is an overview of the Fed's interest rate hikes since March 2022. It is speculated that the rate hikes peak is over and we are now in the last phase of this rate-raising cycle.

When will be the next FOMC meeting?

The upcoming FOMC meeting on June 13–14, 2023, will be critical for the year as it will set the global investment landscape.

As per CME Group, there is an 82.7% chance that the Fed will stop raising interest rates and maintain their current Fed funds target range in June. Still, investors and central bankers have around six weeks to monitor economic data that could have a big impact on monetary policy.

(If you want to know more about FOMC meeting, you can check out the blog: FOMC: What Is It and What Does It Do? How Does It Affect The World Economy?)

How a US debt crisis standoff could cause a recession

The US debt crisis looms over the economy like a dark cloud. Recent reports from the Congressional Budget Office and the US Department of the Treasury suggest that the government is approaching the point where it will be unable to pay its bills, also known as the "X-date."

Treasury Secretary Janet Yellen has stated that the "X-date" could arrive as early as June. If that happens, the government may not have enough money to pay its bills, including payments to investors in Treasuries, federal employees, contractors, and Social Security pensioners, leading to a full-blown recession.

While there is hope that a compromise will be reached between Republicans and the White House, the situation remains uncertain. The US government's inability to pay its bills would deal an immediate blow to millions of Americans who rely on government money either directly or indirectly. This could result in dire consequences, including a significant market shift, investors losing confidence, and a resulting global economic slowdown.

Opinions from the trading sector suggest that investors are already pricing in the potential debt default, as shown by the recent downtrend movement in the market.

First Republic Bank collapsed on Monday

The banking crisis in 2023 caused the biggest US bank failure so far: First Republic Bank.

On Monday, regulators arranged for JPMorgan Chase to take over the assets and deposits of First Republic Bank in California. This was the best solution in the circumstances because sharing First Republic's loan losses with JPMorgan will limit the costs to the Federal Deposit Insurance Corporation to $13 billion.

US regional banks shares drop amid worries about the banking crisis

Regional banks are experiencing a sell-off this week as investors fear another potential bank failure. Western Alliance Bancorporation (NYSE:WAL) and PacWest Bancorp (NASDAQ:PACW) have both seen around a 50% drop in their stock prices, indicating that investor worries have yet to clear.

Despite the bearish sentiment, some analysts believe there's currently a disconnect between the stocks and the underlying companies. Investors need to look past the market price and recognize the fundamental strengths of these banks, such as growing deposits and capital. They can consult the disclosures that these companies are putting out, including call reports, earnings releases, 10-K reports, and 10-Q reports, and some banks are even providing updates on deposit flows every two weeks in mid-quarter reports to restore investors' confidence.

What’s the prospect for the banking industry?

The recent financial crisis has raised concerns among investors and the wider financial sector. The crisis is expected to cause credit losses due to liquidity and client confidence difficulties, which will not only affect banks but the entire financial system. Despite efforts to reassure the financial sector, this situation is projected to persist.

Despite the reassurance from the Fed stating that the US banking system is said to be strong and resilient, the rate hike has created further uncertainty for the US economy. Plus, with the potential debt crisis, the US banking industry's prospects are far from optimistic.

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