Regional Banks Optimism

The failure of Silicon Valley Bank thrusted regional lenders in the spotlight, causing concerns about their viability and sending the SPDR Regional Banking ETF (KRE.us) into a free fall in March. At the beginning of this month, First Republic was acquired by JP Morgan Chase after revealing massive deposit outflows ^[1] and then PacWest came under pressure as it explored "strategic asset sales". ^[2]

The first good news came on Wednesday, when in an SEC filing, Western Alliance Bancorporation (WAL.us) disclosed an increase in deposits. The lender said that deposits had stabilized by March 20 and "growth exceeded $2 billion as of May 12" in the second quarter ^[3]. This sent not only WAL.us higher, but also lifted KRE.us, since it created broader optimism around regional institutions.

Debt Ceiling Hopes

Treasury Secretary Yellen has repeatedly indicated that the US government could run out of funds to cover all of its obligations as early as June 1, if the debt ceiling is not raised ^[4]. With the clock ticking, President Biden and House Speaker McCarty (R) met on Tuesday to try and make headway.

Although there haven't been any clear sign of progress, the commentary since then has created some optimism in markets, for a successful outcome. After the meeting, Representative McCarthy said its "possible" to get a deal by the end of the week ^[5] and speaking on CNBC yesterday he noted that "I think at the end of the day we do not have a debt default". ^[6]

President Biden did not leave much room for failure, saying that "we're going to come together", because there is no alternative and all the leaders in these discussions, "understands the consequences if we fail to pay our bills". ^[7]

Hawkish Fed

The US Federal Reserve hinted to a pause of its rate-hiking cycle earlier this month, but inflation remains elevated the labor market very tight, while markets anticipate rate cuts within the year. However, recent remarks by Fed officials have mostly been on the hawkish side and dismissive of such expectations.

Mr Kashkari for example spoke of "darn persistent" inflation earlier in the week according to Reuters, which means that policy makers will have to "keep at it for an extended period of time". Even if the Fed does stay on the sidelines in the upcoming meeting in June, it is more likely that it will keep further tightening on the table and stress the need for sustained restrictive stance. ^[8]

Markets appear to come to terms with these prospects this week, as previously aggressive cut bets have moderated. CME's Fed WatchTool now assigns the highest probability for the first cut in November and for rates standing at 4.75% by the end of the year (from 5.25% current). ^[9]

SPX500 Analysis

During its recent correction, SPX500 was able to defend the critical 38.2% Fibonacci of its last leg up and form a double bottom, which sustains the bullish momentum for new 2023 highs (4,196). Wednesday's's advance brought it closer to that goal, which can pave the way for tackling 4,326, but we are cautious at this stage about that.

Despite yesterday's hopeful view on the debt ceiling negotiations, the lack of solution as we move closer to the June 1 estimated deadline, can weigh again on sentiment. Furthermore, regional banks are still in a precarious position, recent economic data have not been particularly strong and markets may be overly optimistic about a Fed pivot.

As such, there is risk for renewed pressure on SPX500 back towards the key 4.045 support, although a breach that would bring 3,898 in the spotlight will likely need a strong catalyst.