The second quarter started in an atmosphere of uncertainty about whether the failure of Silicon Valley Bank foreshadowed a cascade of further failures. Investors remained cautious as the failure of First Republic Bank played out. JP Morgan Chase acquired that bank over the last weekend in April, keeping depositors whole. That seemed to draw a line under this spring’s episode of banking anxiety, allowing investors to return their attention to their usual concerns about corporate results and Federal Reserve policy. The US stock market rallied strongly from the last week of May to mid-June. A small number of very large technology stocks exhibited particular strength, raising worries that the base of the market’s rise was too narrow. The Federal Open Market Committee announced that they had decided not to raise their policy interest rate at their June 13-14 meeting, but gave strong indications that further increases remain likely in the near future. The market rally then lost much of its vigor. Nevertheless, for the full quarter, the S&P 500 returned +8.74%. Smaller stocks did not participate in the most dramatic gains: The Mid-cap 400 index returned +3.99%, and the Small-cap 600 index +4.85%. In a hopeful sign, however, the smaller stock indices outperformed the S&P 500 for June, suggesting that the market’s earlier narrowness may have ended. [Index returns: Standard and Poors]
Global markets also advanced. The MSCI EAFE international equity index returned +4.28% in local currencies. The US dollar rose dramatically, to 144.47 yen, from 132.75 on March 31. It weakened a bit, however, against European currencies. It ended the quarter at levels of $1.2709 to the pound Sterling and $1.0920 against the euro, from March 31 levels of $1.2369 and $1.0872, respectively. The overall currency effect was a bit averse to US investors; EAFE returned +2.95% in US dollars. [Index returns: MSCI; currency rates: Federal Reserve H.10 release]
Even though the Fed interrupted its recent pattern of raising rates, market interest rates moved higher, especially at shorter maturities. The yield on the two-year US Treasury note ended the quarter at 4.87%, up from 4.06% at the end of March. The ten-year yield ended June at 3.81%, compared to its March 31 level of 3.48%. The Bloomberg Barclays US Aggregate Bond index returned –0.84% for the quarter. [Index returns: Bloomberg; bond yields: US Treasury]
US stocks began 2023 with a strong rally, as some investors expressed optimism that the current cycle of monetary tightening by the Federal Reserve may end soon. Fed Chair Jerome Powell seemed to push back against this hope, however, emphasizing the Fed’s determination to quell inflation. Against this backdrop of tension between the market and the Fed, US stocks gave back almost all of January’s gains by early March. The major market shock of the quarter, of course, was the sudden collapse of Silicon Valley Bank, which failed, in part, because its management misjudged the impact of rising interest rates. A couple of other banks also failed, but thanks to SVB’s idiosyncratic business, and perhaps to aggressive measures to protect depositors, its failure did not trigger an immediate and general contagion, although shares of other regional banks fell steeply. Overall, the market response was a rush to high-quality bonds and the largest stocks, seemingly on the prospect that SVB’s failure may limit the Fed’s need, and ability, to raise rates. For the full quarter, the S&P 500 returned +7.50%. Smaller stocks did not participate in the most dramatic gains: The Mid-cap 400 index returned +3.81%, and the Small-cap 600 index +2.57%. [Index returns: Standard and Poors]
Global markets also advanced. The MSCI EAFE international equity index returned +7.49% in local currencies. The US dollar weakened a bit, particularly after the banking problems of mid-March. It ended the quarter at levels of $1.2359 to the pound Sterling and $1.0872 against the euro, from December 31 levels of $1.2077 and $1.0698, respectively. The yen weakened even more than the dollar – one dollar bought 132.75 yen on March 31, up from 131.81 yen on December 31. The overall currency effect was modest; EAFE returned +8.47% in US dollars. [Index returns: MSCI; currency rates: Federal Reserve H.10 release]
Even though the Fed raised its short-term rate target by 0.25% in March (after the failure of SVB), the flight to bonds drove interest rates lower. The yield on the two-year US Treasury note ended the quarter at 4.06%, down from 4.41% at the end of December. The ten-year yield ended March at 3.48%, compared to its December 31 level of 3.83%. Reflecting this general rally in bonds, the Bloomberg Barclays US Aggregate Bond index returned +2.96% for the quarter. [Index returns: Bloomberg; bond yields: US Treasury]