The impact of the banking crisis is still unfolding despite assurances from the Federal Reserve and the Big Banks that the banking system remains strong and resilient. With over 100 banks in similar situations as SVB the mismanagement of "duration" risk is clearly widespread among many regional banks. In addition to the current "risks" that have the headlights focused on them are the significant commercial paper "risk" that regional banks hold and will need to be refinanced in the coming years. These are valued in the trillions of dollars. A significant portion of this debt was financed when interest rates were around zero. As this debt rolls over and needs to be refinanced there is a high probability this will occur in a market with higher than zero interest rates, lower property values and less liquidity in the short term, due to the banking failures and call for tighter regulation of regional banks.

COVID accelerated a comprehensive change in employee remote work arrangements. While the trend has generally moved towards a hybrid approach of remote and in-office work arrangements, companies are down-sizing their office space requirements as they consolidate use with shared employee spaces. This trend will impact demand for commercial office space. The commercial real estate market is struggling as a result. Before the pandemic, office space occupancy was close to 95% whereas last December it was at 47%.. Lower rental income equates to declining values. An office building in San Francisco for example that sold for $397 million in 2019 was on the market in December 2022 for $155 million.

Regional banks carry significant risk exposure to commercial paper and commercial real estate companies that are in a market downturn and this will be or should be a forward looking concern to investors and depositors. Columbia Property Trust’s default on a $1.7 billion floating-rate loan, and Brookfield Asset Management’s default on $750+ million in debt in Los Angeles are early warning signs. Commercial real estate leases can span several years so it will take approximately a couple of years for this to unfold during which millions of leases will expire. Companies renegotiating their leases will have the upper hand. They may lease less space or no space attall. Either way, this trend will impact the value of commercial real-estate if rental occupancy and rates decline. This in turn will impact the value of commercial loans on regional banks books and impact their capital ratios.

This week's news has been dominated by the crisis in banking and the second biggest banking failure in US history. If one had to point to the root of the current global banking crisis, it would be the "mismanagement of risk", fuelled by a significant dose of depositor and investor fear. This is the common denominator at all the banks that were and still are most impacted.

Silicon Valley Bank did not adequately hedge it's treasury bond and mortgage backed securities portfolio which had been purchased during the zero interest 2020-2021 environment, leaving it with significant growing unrealized losses as interest rates rose. Under normal banking and economic conditions this would not have been a significant risk. However under significant stress and difficult economic conditions with depositors withdrawing significant funds, the bank could be exposed to having to raise funds to meet withdrawal demands and in order to do that it would have to sell its bonds and mortgage backed securities at a significant loss.

Banks are meant to be in the business of managing risk and mitigating for exactly these types of scenarios. Instead of hedging that risk one must assume that it considered that risk to be an outlier. In either case, one would be right in questioning the judgement of management. As depositors withdrew funds, SVB had to sell its portfolio of bonds and mortgage backed securities for a loss of approximately $1.8bn. When SVB announced this fact to the market - a market that was already on edge - along with the need to raise additional capital, large Silicon Valley VC's began pulling their funds out of the bank which combined with dire messaging amplified through the megaphone of Twitter turned into a stampede. Over $40 billion dollars was withdrawn in 3 days causing the second largest banking failure in US history and new management - that is, the FDIC - to step in.

Inflation was up 0.5% in January and the CPI was up for 6.4% from the same period last year. Both numbers were higher than expected and have predictably caused the Federal Reserve to reflect and take a more hawkish stance. Shelter, Food and Energy remain the primary culprits boosting inflation numbers, of which shelter represents approximately 50%. While the markets anticipate a decline in shelter costs over the year this has proved stubbornly resilient to date. The next meaningful economic data announcements this month include "retail sales", the "monthly jobs report" and the consumer price index report for February.

You may be wondering why this article is titled "Will the Fourth Industrial Revolution Kill Inflation" and that is because we are on the cusp of paradigm shifting innovations which will unleash a "productivity revolution" unlike anything that has come before it. The combination of AI, Robotics and Quantum Computing to mention just a few will reinvent what is possible. The current Quantum Computer in development at Google is purported to be 158 million times faster than the fastest supercomputer on the planet. That is an unfathomable leap. AI (Artificial Intelligence) is expected to double in its capacity every 6 months. At the most rudimentary level, these technologies combined with advanced micro-devices that have the potential to monitor every item and point on any supply chain, will not only address "supply chain" imbalances but altogether drive logistical, material and sustainable efficiencies across entire industries. By addressing supply chain issues, one of the main contributors of inflation, we will see these technologies contribute powerful disinflationary forces.

However, while we are on the cusp of this 4th industrial revolution which has the potential to dwarf every previous industrial revolution combined, the current impact is in its infancy. Over time, the combination of the technologies mentioned, and many others have the power for generating exponential innovation and one of these changes will be a generative global disinflationary economic impact.

In a widely anticipated move Federal Reserve Chairman Powell announced the slowdown in the magnitude of rate hikes to .25%. While the markets were waiting impatiently for a signal that the Federal Reserve will lower rates later in the year, they did not receive this gratification. Chairman Powell is right to be cautious. While early signals do suggest the desired impact of raising rates is leading to disinflation, it is still too early to say for sure. The Federal Reserve's caution and prudence is warranted and a signal to the markets that they are trying to get this right without unnecessarily sending the economy into recession. A wait and see mode makes sense.

Today's unemployment report only underscores this fact. The Bureau of Labour reported that the unemployment rate fell to 3.4% and the economy added 517,000 jobs exceeding the most optimistic forecasts. While some debate how accurate these numbers are, the labour market remains strong, the strongest it has been since 1969.

This presents challenging issues for the Federal Reserve as part of their desired impact from rate hikes is a weakening in the labour market to stifle wage inflation. The markets are having to digest conflicting data and discern the future. January wage growth for example has cooled with average earnings dropping from 4.8% in December to 4.4% in January. Until the signs of the wage push inflation cooling are more clearcut, the Federal Reserve will continue to wait, watch and act.

How useful is the Advance Decline (A/D) indicator and what can it tell us? The A/D indicator is a breadth indicator and signal used for determining a shift in the directional trend of aggregate markets. It measures the difference between the number of advancing and declining stocks on a daily basis. In doing so, it can provide insight into market sentiment. A rising line signals the cumulative strength of rising stocks in proportion to declining stocks and conversely a falling trend line shows the preponderance of stocks falling in proportion to stocks that are rising. As with every signal there are nuances to understanding the data outputs of the signal itself which in turn can require evaluation in combination with other technical indicators.

As mentioned, when an index is rallying and the A/D line is rising it reflects strong participation among companies in the trend. However, if the index is rising but the A/D line is rising only marginally or remains unchanged, it could indicate that the rally in the index is due to the rise of only a small number of market leaders. Conversely, if indexes are falling but the A/D line is steady or even rising, it can indicate that fewer stocks in aggregate are declining.

On Thursday January 12th 2023, the ratio of advancing to declining stocks on the NYSE closed above 1.97. The last time this happened was in June 2020, when stocks were rallying out of the COVID-induced bear market. This is the 25th time that this has occurred in the last 75 years. In all 24 prior instances the stock market was higher 12 months later. There are no guarrantees of course that the same will happen in this instance. History can signal probabilities but every market cycle and time in history has its own unique attributes.