Licenced by SFC Type 1, 4 & 9 & MAS Capital Market Services
28 March 2023
“We believe fears are overdone as systemically important banks retain strong liquidity positions…”
Bond volatility surged as concerns around US regional banks spread to Europe, challenging the ability of central banks to continue their still incomplete tightening cycles. The ECB delivered 50bp of hikes in line with its earlier guidance showing strong commitment to take inflation back to target, which is projected to be “too high for too long”. Baseline projections justify additional ECB tightening but financial stability risks warrant some caution and a data-dependent approach, with liquidity provisions for banks seen as the first line of defence. The FOMC implemented another 25 bp hike and signalled addressing financial stability separately from monetary policy. Current market pricing projects the Fed funds rate has peaked and 75 bp of cuts just this year, and 140 bp of cuts in 2024. Although lower US peak rate pricing is a reasonable reaction to current uncertainty, the front-loading of cuts to the extent seen in market pricing appears overdone in the event banking systemic risk is contained.
Market Pricing More Dovish Policy Vs FOMC March Forecast
Source: Bloomberg Finance L.P.
The mandated writedown to zero of Credit Suisse Additional Tier 1 is spilling over to wholesale funding costs across the banking sector. Uncertainty around capital hierarchy, given AT1 took a larger loss relative to equity, was a negative surprise for the credit market. Despite the EU bank regulator reiterating that CET1 will absorb losses ahead of AT1 which remains an important part of the capital stack, expect bank spreads to trade in an elevated range from here. Credit investors are now likely to demand a higher risk premium across the spectrum, with cost of AT1 issuance potentially rising to double digits. Banks may become more cautious on asset growth plans, which may lead to less credit creation and downside risk to economic growth. Economies with higher leverage and reliance on offshore borrowing may experience asset quality risks as refinancing becomes more challenging.
In China, the PBOC lowered the reserve requirement ratio for banks by 25 bp effective 27 March. This is estimated to inject long-term liquidity of about RMB 500 billion into the banking system. The PBOC’s action comes against the backdrop of heightened turmoil in financial markets and a nascent recovery in China’s economy. The PBOC signalled it aims to maintain “reasonable and sufficient liquidity” to support the momentum of economic recovery but will not engage in large stimulus, which is consistent with the NPC’s moderate GDP growth target this year. In the housing market, NBS data showed new home prices increased 0.3% month-on-month in February, the first positive sequential growth in 17 months, though still falling 1.9% year-on-year. In the absence of aggressive nationwide housing sector policy easing, expect the pace of gains to be gradual.
Fixed Income Strategy
Recent financial developments are likely leading to tighter credit conditions, effectively the equivalent of further rate hikes and increasing odds of a near-term negative growth shock. Shorter maturities have seen the largest fall in yields and are prone to a snapback in the event systemic fears fade. Nevertheless, the economic outlook may yet deteriorate, which supports owning duration over the near term. Add long end high grade that has more potential for capital appreciation in the event other sources of stress emerge.
Maintain positioning in the senior and Tier 2 segments of banks, which are relatively more insulated from volatility than Additional Tier 1 securities. If AT1 continues to trade at higher yields going forward, this makes the economics of redeeming on the first call date more unattractive. Asian banks may be better placed given stable deposit funding, heavy regulatory oversight, and limited exposure to mark-to-market on securities portfolios. An indirect channel of risk could come from tighter USD funding. In that event, there is scope for decompression among the sector with the larger and systemically important banks within each country likely to maintain better access to capital and funding, whereas weaker and less systemically important banks may be under more pressure.
Maintain position in Macau gaming operators. China resuming visa issuance to tourists and foreigners and visa-free entry to groups from Macau effective 15 March, improves prospects for a faster rebound in gross gaming revenue. March 2023 month to date average daily inbound visitor volume is 65,000, a 13% increase on the daily average in February. Macau’s airport operator anticipates a further increase in flight volume from the end of March to the end of October as more air links between Macau and Southeast Asia are set to resume. Taken together, Gross Gaming Revenue (GGR) recovery momentum should persist this month and improve vs February GGR which was 41% of pre-pandemic levels.
The Equities market are pulling back on the back of fears of contagion risks in the banking sector and the tightened credit conditions. Volatility may persist near-term as confidence takes time to return, but buying opportunities are surfacing on quality blue-chip securities. We continue to believe that wide-scale contagion in the U.S. and Europe banking system remains distant, and ultimately, economic data and inflation should and are still driving overall market direction in the mid-term. Depending on the key measures of inflation (PCE and employment data) declining to a reasonable level deemed acceptable to the US Fed, the overhang on Global Equities, in particular US and European Equities (due to the lack of positive catalysts and overhang from the banking sectors), may continue to weigh on overall near-term market sentiment. We see any major pullback as a buying opportunity to add exposure in both HK/China and also the US versus the other regions.
While we recommend to continue to overweight in defensive sectors for US equities, e.g., consumer staples and healthcare, we also recommend investors to implement shorter-term tactical/swing trades through accumulating or buying quality US names on this recent and on-going market pullback as investors sector rotate into higher beta names in view of a potential end to rate hikes in the coming months.
Take profit on Chinese telecommunications companies as market further price in the end of rate hikes and investors begin to rotate out of more defensive names in China into high beta, high growth industries. Continue to remain overweight in beneficiaries of the China reopening theme; Chinese airlines, domestic consumption-related, travel-related and F&B-related sectors. In addition, do consider gradually building or accumulating positions in selected Chinese technology names in this round of market pullback.
The recent sell-off in the global financial sector can be attributed to US bank solvency fears after the collapse of Silicon Valley Bank and the write-off of Credit Suisse’s AT1 bonds. We believe fears are overdone as systemically important banks retain strong liquidity positions despite unrealised losses on held-to-maturity bond portfolios as reported by FDIC in 4Q22.
The Adjusted National Financial Conditions Index (ANFCI) and Tier 1 capital ratios remain robust with no signs of an immediate solvency concern. However, the Fed’s inability to alleviate public fears may aggravate bank runs which in turn may materialise into liquidity risks – because of a mismatch in duration between the bank’s assets and deposit liabilities. Consequentially, this undermines and poses a systematic threat to the whole US financial system.
The Fed’s discount window is a central bank lending facility meant to help US commercial banks borrow money to meet short-term liquidity needs in the event that they are unable to borrow from another bank. The act of borrowing from the discount window may send a negative signal to other stakeholders and counterparties about the bank’s financial conditions – which is why the discount window is considered a lender of last resort.
Our team is monitoring for any further increase in borrowing from the discount window to access US bank liquidity risks. We are also actively monitoring for weaknesses in US commercial bank loan-to-deposits to access the banking crisis’ toll on the overall health of the economy.
William Chow – Deputy Group CEO
Mr. William Chow brings over two decades of asset management experience and currently oversees Raffles Family Office’s (RFO’s) Advanced Wealth Solutions division while also serving on its Board of Management and Investment Committee.
He joined RFO from China Life Franklin Asset Management (CLFAM), where as Deputy CEO from 2018 to 2021 he oversaw $35 billion in client investments. William also chaired the firm’s Risk Management Committee and was a key member of its Board of Management, Investment Committee and Alternative Investment Committee. Prior to CLFAM, he spent 7 years at Value Partners Group, the first hedge fund to be listed on the Hong Kong Stock Exchange, where he was a Group Managing Director. He started his career at UBS as an equities trader and went on to take up portfolio management roles at BlackRock and State Street Global Advisors from 2000 to 2010.
William holds a Master’s degree in Science in Operational Research from the London School of Economics and Political Science, and a Bachelor’s degree in Engineering (Hons) in Civil Engineering from University College London in the UK.
Derek Loh – Head of Equities
Mr. Derek Loh is the Head of Equities at Raffles Family Office. Derek has numerous years of work experience from top asset management firms and Banks – 13 Years on the Buy-side across 3 major cities in Hong Kong, Singapore and Tokyo. Derek demonstrates in-depth industrial knowledge and analysis, covering mostly listed equities.
As an ex-portfolio manager for ACA Capital Group, Derek oversaw a multi-billion-dollar global fund for a world-renowned sovereign wealth fund and reputable institutional investors include Norges Bank (Norwegian Central Bank), Bill & Melinda Gates Foundation and Mubadala. Derek holds an Executive MBA from Kellogg School of Management and HKUST. He is also a CPA.
Ek Pon Tay – Head of Fixed Income
Mr. Tay Ek Pon is responsible for fixed income investment management at Raffles Family Office. He has over 20 years of fixed income experience across Singapore and Japan.
Prior to joining Raffles Family Office, Ek Pon was a portfolio manager at BNP Paribas Asset Management since 2018, responsible for Asia fixed income mandates. From 2016 to 2018, Ek Pon led the team investing in Asian credit at Income Insurance. From 2011 to 2016, he worked at BlackRock, managing benchmarked and absolute return fixed income funds. Earlier in his career, he held several positions as a credit trader in banks for 9 years.
Ek Pon graduated from the University of Melbourne with a Bachelor of Commerce and Bachelor of Arts.
Sky Kwah – Director, Investment Advisory
Mr. Sky Kwah has over a decade of work experience in the investment industry with his last stint at DBS Private Bank. He has achieved and receive multiple awards over the years being among the top investment advisors within the bank. He often deploys a top-down investment approach, well versed in multiple markets and offering bespoke advice in multiple assets and derivatives.
Prior to his role at Raffles Family Office, Sky worked at Phillip Capital as an Equities Team leader handling two teams offering advisory, spearheading portfolio reviews and developing trading/investment ideas.
He has been interviewed on Channel News Asia, 938Live radio, The Straits Times and LianheZaobao as a market commentator and was a regular speaker at investment forums and tertiary institutions.