WEEKLY REVIEW 27 March 2023: The markets have always been wrong


The bank drama continued to be at the centre of market attention. The markets’ and the US central bank’s expectations for future interest rate hikes are now in sharp contrast.

Volatility continued in the investment markets last week. A stock price rise was seen early in the week, but a pessimistic sentiment regained ground towards the end of the week. Growth companies have outperformed especially in the USA, largely driven by the decline in the interest rate level. Europe and Japan have been the best-performing markets since the beginning of the year. On a weekly level, the equity markets slid into slightly negative territory last week. The widening of credit spreads has weakened high yield investments in particular. The declining interest rates have increased government bond returns over the past few weeks.

The bank drama continued to be at the centre of market attention. The markets also kept a close eye on the outcome of the US central bank’s (Fed), interest rate meeting.

The Credit Suisse saga came to a close and the markets were reassured when UBS announced that it would buy the bank. In connection with the deal, Credit Suisse’s AT1 bonds lost their value, as specified in the bond conditions in anticipation of such an event. However, the loss of value also resulted in volatility more widely in the bonds of other European banks last week. In the USA, nervousness was caused by the Secretary of the Treasury’s, Janet Yellen’s, announcement that the government will not guarantee all bank deposits. Fundamentally, there was nothing new to the announcement, however; in Finland, for example, deposits are only guaranteed up to EUR 100,000.

The Fed held its March interest rate meeting last Wednesday. Before the meeting, the markets had no clear vision as to the interest rate hike (or even cut), and the range of possible scenarios was exceptionally wide. Some investors expected a hike of two increments (i.e. 0.5 percentage points) while the boldest ones placed their bets on a cut of up to one increment (0.25 percentage points) due to the concerns in the banking sector. However, the central bank opted for the scenario that was considered to be the most likely beforehand, meaning a hike of one increment. This increased the range of the key interest rate to 4.75–5.00 per cent. In the aftermath of the meeting, the interest rate level fell and the dollar depreciated against the euro.

The markets’ and the central bank’s expectations for future interest rate hikes are now in sharp contrast. According to the message received from the central bank’s meeting, there are no interest rate cuts in store for this year, and the central bank members expect the key interest rate to be around five per cent at the end of this year. The central bankers expect the interest rates to be brought down slowly starting next year. The fixed income markets, in turn, are currently pricing in a cut of several increments in the key interest rate, bringing the key interest rate to around four per cent at the end of the year.

Which one should we believe then? In the past, the markets have systematically been wrong about the key interest rate level in the USA, with the markets tending to expect smaller changes in the key interest rate level than what the central bank has ended up making. On the other hand, the central bank has quickly reversed course in its monetary policy in recent years. During 2021, for example, the central bank persistently reiterated the message of inflation being transitory and kept the key interest rate at a low level, until it had a change of heart at its last meeting of the year and carried out hefty interest rate hikes during 2022.


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