SVB collapse: Big Fed rate cuts now expected in major reversal over recession fears
Zachary Halaschak
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In a major reversal from just days ago, investors are now predicting big interest rate cuts by the Federal Reserve as the financial sector is roiled by the fallout from Silicon Valley Bank’s collapse.
The Fed’s target rate is currently 4.50% to 4.75%, a huge increase from the ultra-low level it was at a year ago.
A month ago, the consensus was that rates would go higher this year as the central bank tries to arrest the inflation that has been wracking households over the past two years.
But now, with the failure of SVB, the paradigm has entirely shifted.
There is now a 64% chance that the Fed will slash rates by at least an entire percentage point by the end of the year, according to CME Group’s FedWatch tool, which calculates the probability using futures contract prices for rates in the short-term market targeted by the Fed.
There is also a 33% chance that the Fed’s overnight rate will have been slashed to somewhere between 2.75% and 3.50%.
SVB COLLAPSE: FIRST REPUBLIC BANK’S RATING SLASHED TO JUNK STATUS
Notably, investors predict that there is virtually zero chance that rates will be as high as they are now come December. That is a massive swing, considering that just a month ago, those same investors had assigned a more than 91% chance of rates closing out the year higher than they are now.
The shift comes amid growing uncertainty about the U.S. and global banking system. The problems began over the weekend following SVB’s sudden collapse.
Some stability was established after the federal government announced that it would back all deposits in the banks, even those in excess of the FDIC’s $250,000 threshold, in an effort to stop a run on other banks and a hit to the broader economy.
The Fed also rolled out a new source of funding for banks that might face runs by depositors, called the Bank Term Funding Program.
But fear has crept back into the market.
Switzerland-based megabank Credit Suisse was undergoing its own crisis on Wednesday. That is because the chairman of Saudi National Bank, the bank’s biggest shareholder, announced it would not be increasing its stake, given regulatory constraints.
Credit Suisse’s stock shed about a quarter of its entire value after the revelation. That dragged down the stock market more broadly and other big banks such as JPMorgan Chase and Goldman Sachs, which were each down more than 4% midday Wednesday.
Additionally, S&P Global Ratings downgraded another regional bank, First Republic, to junk status, leading to steep losses.
Former Boston Fed President Eric Rosengren weighed in on the situation Wednesday. He tweeted that the Fed should stop raising rates, given the events of the past week.
“Financial crises create demand destruction. Banks reduce credit availability, consumers hold off large purchases, businesses defer spending. Interest rates should pause until the degree of demand destruction can be evaluated,” Rosengren said.
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The Fed will make its next interest rate decision next Wednesday. Before the SVB debacle, investors were betting on at least a quarter percentage point rate hike or even a more aggressive half percentage point revision but now think there is a better chance that the rate will be held at its current level.
“The easing of recent inflationary pressures, combined with concerns about the banking industry, finally give the Fed reason to discuss a possible end to their tightening cycle at next week’s meeting,” said John Lynch, chief investment officer for Comerica Wealth Management.