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Europe Rallies as Us Stumbles

Stocks across Europe rallied early Friday after another so-so session on Wall Street as investors looked at a wall of worry that features the debt ceiling and more trouble at regional banks. Modest gains for the major European indices at the open leave them flat for the week, with the FTSE 100 up a quarter of a percent to 7,750 as data showed the UK eked out a meagre 0.1% growth in GDP in the first quarter. The Dow shed 200pts for a fourth day of losses, weighed down by Disney, which tumbled almost 9% after earnings showed streaming subs declined. Tesla raised prices in the US. The S&P 500 ticked marginally lower while the Nasdaq rallied as tech continues to find bid (see below on concentration risk). Treasury yields are testing the lower end of the range below 3.40% for the 10yr, odds of a hike in June keep ranging around, currently at 15%.

 

Short Sale Ban

Regionals were in firing line again, PacWest said deposits down 9.5%, shares tumbled 22%. Western Alliance says deposits grew $600m between May 2nd and 9th, leaving its shares only down three-quarters of a percent on the day. KRE regional index fell 2.5%.

JPMorgan boss Jamie Dimon called for a short sale ban on banks – I figure that is a red flag in itself but we shall see...maybe just doesn’t like anyone taking a pop at his stock but also maybe is winding up for the SEC to do a ban? I figure he wouldn’t be saying this if everything really was ok. Remember it’s not just the regionals – some of the big Wall Street banks have big duration risk on their bond holdings too. Speaking to BBG, Dimon said: “The SEC has the enforcement capability to look at what people are doing by name in options, derivatives, short sales, and . . . if someone’s doing anything wrong, people are in collusion or people are going short and then making a tweet about a bank, they should go after them and vigorously.”

We’ve talked here before about this. Firstly, there is nothing wrong with shorting a stock. Regulators love to ban short sellers – an easy scapegoat for their own failings. Most in the market don’t think it’s a good idea. The data also suggests it is at best ineffective, at worst counterproductive. The question is: should sharp declines in a share price when the funding situation is stable be seen as a ‘short attack’ designed to create trouble? And should we worry about selling taking place when deposits are also going out the window – what comes first? Surely all market participants, whether long or short, should be able to express their view? These are pretty tiny companies to be having such a big impact on the wider market. But they are having a big impact so regulators care. 

I noted on 5/5: “What started as deposit flight leading to stock volatility and liquidity crunches has led to the market running against banks that are not really suffering deposit flight - the likes of PacWest and Western Alliance note they have not experienced “unusual deposit flows following the sale of First Republic.”

 

Half Measures and No Plan?

But now it looks as though PacWest has seen ‘unusual’ outflows. So –22% seems justified? I don’t know. It’s down 80% YTD. Western Alliance held up ok – no one panicked there yesterday. Have shorts really tried to engineer a drop in equity in order to raise the risk of a run on deposits? That seems to be the thinking at JPM and the regulators. I think there is a question here – so what? So what if they did…the market in a hunting mode and the on-the-hoof approach to failures by regulators has only given the market more scope to seek out weaker members of the herd. The job of the regulator is to sort the herd, not try to save any individual.

I also noted that any ban short-selling would probably be to buy time to come up with some kind of plan to rebuild the industry: “There may need to be a ‘whatever it takes’ line in the sand moment – clearly the US authorities haven’t done that – it may be that a ban on shorting bank shares forms part of that.” A major concern of mine would be that a straight ban without a plan does nothing – there needs to be a plan, and that may or may not involve a temporary ban.

Banks depend on confidence and sudden drops in their share price can reduce that confidence, leading to deposit outflows and funding gaps and failures. This has been widely discuss and is nothing new. It’s just whether or not investors should be stopped from shorting stocks. A week ago people were writing that “depositors are no longer panicking, but investors are". But now we have the PacWest data … maybe a ban would have stopped the outflow? I don’t know but I know almost all the evidence is against a ban – the market is simply doing the job the regulators ought to have and ought to be doing to tidy up the banking sector.

 

Data and the Debt Ceiling

Biden's meeting on the debt ceiling with the four heads of Congress was postponed until early next week with sources suggesting spending cuts are on the table. Breakthrough would hit gold.

The Bank of England hiked as expected but unclear how much more and when if they do….door open for more tightening but economy just about holding up. Inflation forecasts – load of junk, not worth the paper they are written on. The 2024 upgrade from 1% to 3.4% is at least based on a recognition of reality, but 2025 still just 1.1% (from 0.8% in Feb), which seems outlandishly optimistic. Doesn’t add up. Growth forecasts revised a lot higher with the UK avoiding recession.

The Bank still seems comfortable with the asymmetry of the situation – inflation quick to go up, but slow to cool...ready to pause but ready to do more...it should depend on the 2yr forecasts really but if inflation is not moving much lower over the summer it will be hard for the BoE to sit on its hands. Markets point to one or maybe two more hikes.

Governor Bailey said it was too easy in hindsight to say the Bank failed on inflation...some of us said at the time they were failing...Key risk is the 1.4m fixed term deals rolling off this year...huge hit to household disposable spending and could see number of forced sales.

Economic data pointing to slowing yesterday – US jobless claims up to 264k, highest in a couple of years, whilst PPI slipped to 2.3% from 2.7%, 11th month in a row lower. Copper lowest since November on this and the China numbers.

Fed’s Kashkari tees up idea of rethinking 2% target, saying it’s ‘conceivable’ that once we get inflation down to 2%, we could have a conversation about changing the target.

 

Elsewhere in the Markets

Meanwhile, Dimon expressed regret about the bank having any kind of relationship with Jeffrey Epstein. “…it’s very unfortunate, and I have deep respect for these women,” Dimon said. “That doesn’t mean we’re liable for the action of an individual, but I do have deep respect for them, my heart goes out to them.” …To which read: don’t even try coming after us for money, ladies. 

You should probably look at this thread on concentration risk in big tech for the wider market. It could all go in an instant. Basically, despite higher rates and a massive re-rating for the S&P 500 from its all-time high, some of the megacap tech names have seen valuations go higher as they have been chased by active managers...who will ditch it all when the selling starts. AI may be a factor… Google parent Alphabet – street likes the I/O AI updates, MS says it removes the AI ‘overhang’ for now...catching up. Shares up +30% YTD, should close valuation gap to peers (currently about 35%). 

 

Charts

Cable holding the trend line for now – selling post BoE may be overreaction and retest 1.26 if this holds.

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