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Are Stocks in Danger as Deposits Leave Banks?

Are Stocks in Danger as Deposits Leave Banks?

April 18, 2023679 view(s)

Reuters reported investors have moved $538 billion into cash funds since the March 1. Silicon Valley Bank (SVB) collapsed on March 10. Despite unprecedented action by the Treasury, Federal Reserve, and FDIC to insure all deposits at SVB, U.S. depositors have concerns over the FDIC’s ability to guarantee the safety of their deposits. Since March 1, depositors have pulled $538 billion, according to Federal Reserve data, pointing to a massive danger for stocks. To understand the risk, we must first look at the background information.




Two days following the collapse of SVB, another mid-sized bank, Signature Bank, also collapsed. Shockwaves reverberated throughout the banking world. Swiss banking giant Credit Suisse's stock began dropping rapidly. Credit Suisse was infused with $53B and three days later was sold for a fire sale price of $3 billion to competitor UBS. As the chart shows, there have been significant outflows of U.S. deposits since the March banking scare.

 



Money markets are not long-term investments. They are usually considered a place to "park cash." Depositors have moved money into money market accounts, government treasuries, and gold. Bank of America estimates about $500 million has moved into gold since March 1. 

Money market accounts are mutual funds that invest in highly liquid assets like short-term government-issued securities or corporate debt. Higher interest rates have made money market accounts more attractive for liquidity than savings or checking accounts, which are still averaging around 0.37% (with some much lower, as the graphic shows) despite a 4.75-5.0% federal funds rate. 

Money market funds can pay higher rates because of the assets' duration. Banks may have invested in a bond two or three years ago with a 0.25% yield and continue to pay 0.1% back to the depositor. On the other hand, money market funds invest in short-duration securities purchased within the last few months that are more sensitive to recent interest rate hikes. Recently, securities had a higher yield than securities bought years ago. Money market accounts can turn over their holdings much faster than a traditional savings account because it is a fund and moves rapidly when rates change.

 



How are Stocks at Risk?

Stock prices are an estimate of the value of future earnings. Investors and financial professionals have different risk mitigation strategies, but an essential thing to understand is the "risk-free" rate. The risk-free rate refers to a hypothetical zero-risk investment. There isn’t a risk-free investment. However, short-term government security backed by a printing press usually makes a decent substitute. The 3-month U.S. Treasury bill is helpful because it is doubtful the U.S. would default on such a short-term security and could always create more money if needed. The chart below shows the current 3-month rate at the time of writing. The risk-free rate should be the minimum acceptable return on any investment. Why would someone invest in something yielding less than government security that has more risk?



The problem is government securities and money market accounts have a better short-term yield outlook than the stock market. Many analysts are predicting a recession or very minimal growth later this year. The Federal Reserve’s 2023 GDP prediction is 0.4% growth, but 2.2% growth in Q1. If the total prediction is less than the Q1 growth, there will need to be sustained negative growth (i.e., a recession) to bring the total GDP to 0.4%. Most people would prefer 4-5% over a negative return. People will abandon the stock indexes for the risk-free rate, which is an obtuse way to say a sell-off is coming. 

Some options don't require trusting the banks to manage your money or the government to be fiscally responsible. Moving toward money markets and 3-month bills may make sense if someone doesn't know better. It is better than leaving it in stocks. However, there is a better way to protect purchasing power while remaining liquid. The average return on gold bullion over the last 30 years is about 6%. Gold bullion has grown more than 10% already in 2023. It doesn’t show any signs of slowing down any time soon.

Bullion, like short-term government securities, is considered a cash equivalent. It is highly liquid and a significantly better store of value than paper will ever be. If someone has a longer-term investment objective, like retirement or inheritance, there are unique coins averaging even higher yields that are less liquid. Your representative can help you, but you may want to move sooner rather than later. It will take investors only a short time to realize 5% is more than -2%. 

It really may be time to get your retirement out of paper. Government bonds have become more attractive than stocks, which is coo-coo for Cocoa Puffs in most markets. Money will flow where it is treated best, which is probably why central banks are buying record amounts of physical gold, not bonds

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Ryan Watkins, Op-Ed ContributorbyRyan Watkins, Op-Ed Contributor
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