The Fed Hiking Cycle is on pause now that they have agreed to backstop depositors from losses.
This will maintain a bit of stability in the markets but is not a solution. It’s just a bandaid because the regulators are not bailing out the banks, just the depositors …
The bottom line is we have witnessed the second largest bank failure in history …
We may see a few more because fear may drive more depositors to pull deposits out of the smaller banks.
Rate hikes at the fastest pace in history have broken the financial system and specifically the regional banking industry.
Today, I’ll share other banks in trouble and the trades that will profit from a continuation of regional bank woes.
Risk in the Market
SVB’s failure was connected to a collapse in the value of bonds it accumulated when it was flush with customer deposits.
The massive mistake they made was not hedging the interest rate risk.
All large financial companies have a Treasurer who is responsible for hedging interest rates risk. Not hedging longer-maturity financial risk was the colossal mistake that caused the failure of SNB.
Friday’s massive rise in VIX call option open interest signaled a return to fear in the markets. The chart below shows both VIX call and put open interest.
Other Firms That Could Become Insolvent
In times like this it is important to remember that a bank may have hundreds of billions in assets but if their asset values AND deposits are sinking together they can become insolvent quickly.
The 2020s crisis will be about debt including government debt, which is still regarded as riskless, which is deceiving.
Yes it is free from credit risk … In other words a holder of US government debt will get paid 100 if they hold it to maturity …
But if the price drops far enough they may be forced to liquidity early and report the loss as realized.
The list below represents banks holding a high % of securities relative to their earnings assets. The higher the ratio the weaker the bank becomes as deposits are pulled.
Hedge Funds Largest Short Positions
There was a list put out by Goldman of top banks being shorted by Hedge Funds and their % drop since the Feb high to Friday’s close…
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- First Republic Bank (Ticker: FRC) – -45%
- Zions Bank (Ticker: ZION) – -37%
- Key Corp (Ticker: KEY) – -22%
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The chart below illustrates the drop from the Feb High for each. Each bounced strongly into the close Friday.
What’s The Trade
I am not chasing the regional banks lower. There are many great trade opportunities so I will be focused on shorts in the indices and longs in iShares 2-Year Maturity US Treasury Bond ETF (Ticker: SHY), energy, commodities and metals
I am confident one of the highest probability trades is to buy short-maturity US government bond ETFs like SHY.
I am also buying Van Eck Junior Gold Miners ETF (Ticker: GDXJ) and the US Natural Gas Fund (Ticker: UNG).
Live and Trade With Passion My Friends,
Griff