Shares of Credit Suisse plunged more than 30% on Wednesday, while the cost of protecting against a default on its debt (through a derivative called a CDS) rocketed to new highs. The long-troubled Swiss bank is now trading 97% below its previous high.
There are plenty of potential reasons behind its inglorious descent, (we wrote about some of them here), but this week’s extreme selloff came as its biggest shareholder (Saudi National Bank) refused to put more money into the struggling bank’s turnaround plan.
And its timing seemed to put everyone on edge. On Friday, Silicon Valley Bank (SVB), a major lender to venture capital firms and startups in the Bay Area, collapsed, becoming the biggest US bank failure in more than a decade. Soon after, crypto banks Silvergate and Signature bank failed. It was a series of events that left a crisis of confidence, one that started with regional, specialist banks and quickly spread to global banks and global markets.
Stocks and commodities have fallen this week as investor worries grew, while gold and Treasury bonds have soared – a sign that traders have begun to price in interest rate cuts from the Federal Reserve (the Fed) and other central banks.
When a crisis unfolds, investors tend to sell first and ask questions later. So perhaps SVB, Silvergate and Credit Suisse are each isolated events. Maybe investors overreacted, maybe risks are most likely contained, and maybe there are great contrarian "buy" opportunities in our midst.
But when several isolated events happen in such quick succession, and when other warning signs are crying out (the inverted yield curve and the weakening across leading indicators, to name two) another explanation is possible: maybe higher interest rates have started to seriously bite the economy, and are testing a financial system that’s grown accustomed to years of stability.
Now, don't go thinking this is 2008 all over again. Banks are in far better shape than they were back then, and, anyway, if that type of crisis were to repeat, the contagion risks would be way more limited. But every crisis is different except in this one way: they all tend to be preceded by a certain kind of selective blindness.
That’s why there’s a risk in waiting for some confirmation of the crisis: things don’t usually play out in a neat, linear fashion. As economist Rudiger Dornbush said: “The crisis takes a much longer time coming than you think and then it happens much faster than you would have thought.”
The truth is, as I explained here, when it comes to the next financial crisis, no one knows exactly what will break, how fast the damage will spread, or how bad things will ultimately get. That’s why – just like with the UK’s pension crisis, SVB’s failure, and all the crises before it – these calamities tend to come as a surprise.
Be careful not to make the mistake of zooming in too much and getting lost in the details. SVB isn’t just about an overly concentrated depositor base. Credit Suisse isn’t just about bad management.
Instead, look at the big picture: the US economy’s slowing, some bubbles have popped (speculative tech, housing, crypto), the Fed’s been hiking rates at its most aggressive pace in history, and the macro environment remains hugely uncertain.
What’s more, our new-look, better-and-stronger financial system remains mostly untested, in real-world terms anyway.
So, be cautious. Don’t go all in on one asset class, make sure your portfolio can handle some pretty extreme scenarios, and keep some cash as dry powder in case attractive investment opportunities present themselves. With investors nervously hitting the “sell” button, that’s looking increasingly likely.
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