Another Volatile Week for Stocks as Investor Emotions Are Running High

We start the week off with uncertainty stemming from the fallout of recent bank failures that continue to ripple through the stock market despite UBS (UBS)  stepping up to acquire Credit Suisse (CS) and central bankers banding together to help ensure commercial banks in participating countries have enough liquidity to prevent insolvency. Equity futures have been swinging back and forth since late Sunday night and as we write today's opening salvo, they suggest stocks will open modestly lower later this morning.

Over the weekend, it was announced UBS will acquire Credit Suisse, a move that is expected to create a business with more than $5 trillion in total invested assets. Credit Suisse shareholders will receive one UBS share for every 22.48 Credit Suisse shares held, equivalent to CHF 0.76/share for a total consideration of CHF 3 billion. The combined entity targets an annual run-rate of cost reductions of more than $8 billion by 2027.

Also over the weekend, the Federal Reserve, the Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, and Swiss National Bank unveiled an enhanced US dollar-liquidity. Those central banks have agreed to increase the frequency of seven-day maturity operations for US dollar operations from weekly to daily beginning today and continuing at least through the end of April. By expanding the dollar swap lines' operations, the goal is to help ensure commercial banks in participating countries have enough liquidity to prevent insolvency.

Waiting for the Other Shoes to Drop 

While those moves should help stabilize the banking industry, there are likely to be other shoes to drop. After failing to line up a suitable buyer for all of Silicon Valley Bank (SIVB) , the Federal Deposit Insurance Corp. is reportedly moving to a breakup solution for the beleaguered bank. S&P Global (SPGI) downgraded First Republic (FRC) bank to "B+" and continues to keep its rating under review for a downgrade. There is also the likely impact to the economy from all of this, which is tighter lending standards and greater risk controls. That along with higher interest rates vs. this time last year, has rekindled recession chatter.

This along with last week's inflation data is going to make for a very interesting Fed policy announcement Wednesday afternoon. It also means the stock market will be hanging more than usual on Fed Chair Powell's presser comments, especially as it weighs how likely the "expected" cuts to the fed funds rate are in the coming months.

As we start the week, the CME FedWatch Tools shows an almost 65% probability the Fed will boost interest rates by a quarter percentage point this week to 475-500 basis points. The current consensus sees that followed with a pause following its May meeting and a rate cut back to 450-475 basis points exiting its June one with another cut to 425-450 basis points by late July.

Speculation is running rampant as to how the Fed will balance its fight against inflation and the string of recent bank failures without tipping the economy into a recession. With the CNN Fear & Greed index in Extreme Fear mode, investor emotions are running high and that could translate into another volatile week for stocks. This means keeping our inverse ETF positions in play, as well as being prudent with our cash in the very near-term.

We agree with Mohamed El-Erian, chief economic adviser at Allianz SE, that "People are doing something that probably is not rational but is totally understandable - they're moving deposits. That dynamic isn't going to stop overnight, neither are the losses that are being incurred."

We see his comments supporting our view that bulge bracket banks will emerge as market share takers, and we continue to see Bank of America (BAC) being among them. We would look to take advantage of continued weakness in BAC shares.

Action Alerts PLUS is Long BAC.