Will the US Banking Crisis Cause a Bull Market or Bear Market in India?

Late last week the world was made aware of some banks no one heard of before - Silvergate Bank, Silicon Valley Bank, and Signature Bank.

These three US banks have been shut down. The core reason is rising interest rates which caused massive losses on their assets. This created a risk of these banks being unable to pay depositors. Hence, they have been shuttered and the US government has taken over.

This much is known.

But what happens next?

Well, that is something no one can say for sure right now. The US banking system is facing its biggest challenge since 2008. The US government is actively involved trying to douse the flames. The US President has assured that the situation will be contained.

Global financial markets seem unsure about going along with this positive narrative. And for good reason. Traders and investors who have experienced the global financial crisis of 2008 are highly sensitive to any banking related problem. They won't take it lightly.

The idea that these banks were small and focused on the US tech sector will not bring much comfort to those experienced financial professionals who have large amounts of money on the line. They will prioritise caution above profits. Return of capital over return on capital.

This is what we have seen over the last few trading sessions in the stock market in the US and in India.

The bulls are firmly on the backfoot. Even today after a positive opening, the markets lost momentum.

Now all this does not mean we should expect the worst. This situation is different from that in 2008.

Here's Tanushree Banerjee, Equitymaster's co-head of research on this...

• As the SVB fiasco unfolds, we seem to be watching the replay of old crises that left retail investors scarred for life.
  
  Silicon Valley Bank wasn't among the US' largest financial institutions, but then neither was Lehman Brothers in 2008. And nobody who paid attention in 2008 can help feeling the shivers while watching an old-fashioned bank run.
  
  But SVB isn't Lehman and 2023 isn't 2008. We probably aren't looking at a systemic financial crisis in the US or in India.

If this is the case then it's indeed reassuring. We need not panic. However, it doesn't mean we should let our guard down.

Here's Tanushree again...

• SVB and Adani stocks-led crash are not the last of the crises that Indian stock markets will witness in 2023. There are probably many more in the offing.
  
  The fallout of such crises may be negative for most investors out there.
  
  However a little patience, discipline and diligence could allow you make such opportunities the inflection point for investing goals.

That's right smart investor would be on the lookout for opportunities in this crisis. If there is a bear market or a bull market because of this, you should be ready to handle it.

Let's examine both scenarios and figure out the best course of action...

The Bear Case

Let's look at the negative scenario first as it's on everyone's minds right now.

The market bears think the situation will get worse and won't be contained...and they are betting on this outcome,

So far, the major fallout has been restricted to the US startup space, the crypto market (signature and Silvergate were lending to crypto firms) as well as technology and banking stocks.

The failed banks were regional banks and not the big national banks. The big US banks might be strong enough to handle this crisis, but many regional banks may not be.

This is a genuine concern. On Monday, 13 March, trading was stopped in the stocks of many US regional banks.

None of these banks are large enough to cause a contagion or a ripple effect throughout the US financial system. But what about a few collapsing together?

This is the fear that's ruling the market now. Until the market overcomes this fear and is convinced there won't be a 2008-style contagion, there will be nervousness all around.

The Bull Case

The bulls see this situation very differently.

They think the fallout will be limited and it's not something that can cause a big crisis...certainly not a global one.

In fact, the bulls go further. They say it's actually a good thing if a few more regional banks fail.

Why?

Well then, the US Fed will have no choice but to stop hiking interest rates. After all, they too will begin to fear contagion. They don't want to cause a recession by sitting back and doing nothing.

If things were to get worse, the Fed might even reverse course and start cutting rates...and that will be positive for stock markets all over the world.

Should you believe this line of thinking?

Well, there is no doubt that the Fed will stop hiking rates if there are more bank failures. And if things get worse than that... who knows? They may cut rates too.

But if they do that then inflation, which is already too high, will go through the roof. Controlling inflation was the reason why the Fed started raising rates in the first place.

Thus, they won't make a decision to reverse course lightly.

Conclusion

Investors and traders in the Indian stock market should watch the developments in this ongoing story carefully. Things can change very fast. After all, at this time last week, we had not even heard the names of these banks.

It's best to keep a close watch on your stocks to find out which ones are reacting most strongly to this event. As of now, the fallout has hit Indian banking stocks the hardest.

But other sectors will also be impacted. The Indian IT sector could be among them.

If these bank failures bring about a recession in the US, then all export oriented industries will take a hit along with financials, and interest rate sensitive sectors like real estate.

However, this does not mean use should lose focus from the big picture. Here's Richa Agarwal, Equitymaster's smallcap guru, reminding us of the big picture...

• Depending on the Fed's stance and the global economic scenario, there could be a near term correction due from here. There's almost a 50% chance of it.
  
  But considering the structural shifts and policy tailwinds in India, I would expect history to repeat itself.
  
  A few years from now, the current levels of Sensex could be dwarfed by the fresh peaks.
  
  As I have shared before, in my view, the base case scenario could be a 15% CAGR growth for earnings. At median PE multiple of 20x for the Sensex, this amounts to over 1 lakh level for the Sensex in 5 years.
  
  That's a CAGR of 13%. The upside in individual stocks, that rank higher on quality and growth prospects, could be much higher.

If you're a long-term investor, you should look at the silver lining of this crisis. One the dust settles, a lot of good stocks will be available at rock bottom prices.

You should be ready to advantage of that scenario.

Happy investing.

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such. Learn more about our recommendation services here...