Jobs Data Poses Extra Market Risk as Bank Funding Drama Unfolds

(Bloomberg) — A widening bank rout has raised the stakes for key jobs data due Friday, as investors brace for a hawkish Federal Reserve to accelerate rate hikes even at the risk of tipping more lenders into distress.

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With money markets assigning even odds to a rate increase of 50 basis points at the March meeting, evidence of enduring labor strength would heap pressure on policymakers to persevere with jumbo hikes, and make good on warnings that rates may need to be steeper and go on longer to tame inflation.

“There was always a high chance the Fed would hike until something broke and if payrolls is strong then risk asset investors are going to have to smell the coffee that they’ve been willfully ignoring for the last six months,” said James Athey, investment director at Abrdn. “The Fed has inflation concerns won’t go away so quickly and therein lies the tension.”

Investors dashed to safety Friday while exiting the shares of banks and other rate-sensitive sectors. While they fled to cash and Treasuries, discretionary funds clung to sidelines after bringing exposure closer to neutral from underweight.

The Stoxx Europe 600 Index slumped the most since January, while the selloff in bank shares sent the Stoxx 600 Banks index down as much as 4.9%, its biggest drop since June.

The troubles at SVB Financial Group — a small technology-focused lender — lay bare the potential damage a regime of aggressive rate hikes is starting to have on the financial system.

“The Fed now has very clear evidence that they are having an impact on the financial system and the economy — rate hikes are starting to bite – that’s not enough to give them pause but certainly something that they will take into consideration,” said Mark Haefele, CIO at UBS Wealth Management.

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Banks are sitting on giant unrealized losses as government debt swoons under rate hikes. Those paper losses can turn into a funding shortfall if banks are forced to sell the assets to cover deposit withdrawals, or to cut their exposure to falling government debt.

For big banks with diverse assets, such a firesale and funding crunch is a remote risk, with strategists noting that SVB’s situation is unlikely to mirror that of the lenders at the core of the financial system.

SVB shares dropped more than 40% in US premarket trading, set to extend Thursday’s 60% plunge while the KBW Bank index slumped more than 7% at the close of trading on Thursday.

Money markets had recently scaled back bets the Fed would opt for a half-point hike at its March meeting to about an even chance. Economists project a 225,000 increase in February payrolls, and a hotter number could tilt expectations back to a half-point Fed hike.

Frederic Leroux, a member of the investment committee and head of the cross asset team at French asset manager Carmignac, had a more sanguine take.

“This is exactly what the Fed wants,” to tame inflation and slow the economy, Leroux said. A “hike too many might not be necessary after all; the effects of the monetary tightening are likely going to be felt in short order.”

–With assistance from Alice Atkins.

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