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April 2023 Performance Review

May 5, 2023

This year has been marked by turbulence in the banking sector. The total assets of failed banks already exceed the inflation-adjusted assets of the banks that failed in 2008 during the financial crisis. The first failure occurred less than 60 days ago. Although there were 25 bank failures in 2008, the current situation involves larger regional banks dealing with significant depositors. So far, the list consists of just three banks: Silicon Valley Bank, Signature Bank, and more recently, First Republic. These stark figures suggest we are likely to surpass the total assets of all the banks that collapsed during the 2008 crisis, which saw elevated failures through 2012 due to massive losses from aggressive real estate lending during a substantial housing bubble.

Our Conservative portfolio gained 1.39%, and our Aggressive portfolio gained 1.16% in April. As for the benchmark Vanguard funds for April 2023: Vanguard 500 Index Fund Vanguard 500 Index Fund (VFINX) was up 1.56%, Vanguard Total Bond Index Vanguard Total Bond Index (VBMFX) was up 0.54%, Vanguard Developed Markets Index Vanguard Developed Mkts Index (VTMGX) was up 2.55%, Vanguard Emerging Markets Index Vanguard Emerging Mkts Index (VEIEX) was down 0.66%, and Vanguard Star Fund Vanguard Star Fund (VGSTX), a total global balanced portfolio, was up 0.58%.

The best performers in our portfolio were Vanguard FTSE Europe (VGK) up 4.13%, Franklin FTSE Germany (FLGR) up 3.69%, and Franklin FTSE Brazil (FLBR) up 3.42%. On the downside, Proshares Short Bitcoin (BITI) was down 3.18%, UltraShort Bloom. Crude Oil (SCO) was down 3.97%, and Franklin FTSE China (FLCH) fell 4.27%.

In the midst of this banking sector upheaval, the broader stock market (surprisingly) remains somewhat resilient. While tech and startup stocks are still down significantly even with the big rebound this year, the S&P 500 ended April only about 10% down from its peak at the end of 2021. This lag in the broader market's response to a banking crisis is not entirely unexpected, as investors often anticipate the containment of the crisis or even a potential boost to the economy and stocks via lower rates.

Bank stocks, on the other hand, tell a different story, down about 50% from their peak in early 2022. Warren Buffett, swimming in cash, has steered clear of buying hard-hit banks, signaling potential long-term concerns. These banks are burdened by massive unrealized losses from loans written just a few years ago when generous stimulus spending and loose monetary policy led to trillions in new bank deposits. As depositors now seek higher yields, banks may find themselves in a precarious position, having to offer 3-5% rates without earning much due to their preexisting condition of low-yield loans in their portfolio.

All the failed banks thus far have a few things in common – a significant presence in tech-heavy California, a focus on large super-prime customers with deposits well above FDIC limits, and some exposure to crypto deposits. It's worth noting that the involvement with crypto has played a role in triggering the bank run, further exacerbating the crisis. Despite the increasing mainstream acceptance of crypto, it remains a destabilizing force for traditional banking institutions.

Interestingly, mega banks, which have been under stricter regulations since the 2008 crisis, seem to be weathering the storm better and have the cash to buy collapsing mid-size banks which had a lighter touch from regulators in recent years. That went well…

The last bank crisis was supposedly all about subprime loans. Investors thought that problem wouldn’t spread to the rest of bank lending – an expensive miscalculation. This new crisis starts with super-prime loans which can be just as toxic – if not more so — in a rising rate environment.

For instance, a super-prime loan for a $10M house can pose more risk to a bank's balance sheet if rates on 30-year mortgages shift from 3% to 6%, compared to $10 million in smaller defaulting loans that go into foreclosure. The actual loss after the down payment is taken into consideration may only be 0-20% while a safe-from-default 30-year fixed loan at 2.5% will not get paid off early and leaves the bank with a loan down maybe 20-40% in price if a fire sale is required. Who wants to own a 2.5% loan when new ones are at 6%?

Higher-risk bonds haven't even performed worse than investment-grade bonds, another surprising twist given the growing banking crisis. This discrepancy underscores the peculiarities of the current financial landscape, where banks can fail without triggering an immediate increase in risky debt defaults.

The Federal Reserve's recent rate hike to 5.25% from near zero just over a year ago also highlights the dangers of relying solely on monetary policy to combat inflation, especially in such a leveraged economy. A combination of tax increases, spending cuts, and a more modest rate hike could have potentially mitigated the current situation.

Despite the unfolding banking crisis and the economic uncertainty it engenders, there’s an unwarranted level of optimism in the stock market. Bargain hunting in stocks is not a good plan from these levels. Instead, investors might consider enjoying the more than 5% yields in safe T-bills while they last. There will likely come a point when the Fed will have to lower rates to shore up the real estate market and the banking industry. If not, we may find ourselves with just a few giant banks standing.

In conclusion, April 2023 has been a month of mixed signals. Despite the turbulence in the banking sector, the rest of the market has shown a degree of resilience. However, the current landscape underscores the need for a more balanced approach in dealing with inflation and for caution in the face of a highly leveraged economy. As we navigate these uncertain times, our portfolios remain diversified and primed to adapt to changing market conditions.

Stock Funds1mo %
Vanguard FTSE Europe (VGK)4.13%
Franklin FTSE Germany (FLGR)3.69%
Franklin FTSE Brazil (FLBR)3.42%
Vanguard FTSE Developed Mkts. (VEA)2.63%
[Benchmark] Vanguard Tax-Managed Intl Adm (VTMGX)2.55%
VanEck Vectors Pharma. (PPH)2.45%
Vanguard Communications ETF (VOX)2.32%
Homestead Value Fund (HOVLX)2.01%
Vanguard Value Index (VTV)1.77%
Invesco CurrencyShares Euro (FXE)1.72%
Vangaurd All-World Small-Cap (VSS)1.57%
[Benchmark] Vanguard 500 Index (VFINX)1.56%
LeatherBack L/S Alt. Yld. (LBAY)0.57%
Franklin FTSE Japan ETF (FLJP)0.52%
ProShares Decline of Retail (EMTY)0.34%
Proshares Short High Yld (SJB)0.22%
Franklin FTSE South Korea (FLKR)-0.54%
[Benchmark] Vanguard Emerging Mkts Stock Idx (VEIEX)-0.66%
ProShares UltraShort QQQ (QID)-0.68%
NightShares 2000 (NIWM)-0.94%
Proshares Short Bitcoin (BITI)-3.18%
UltraShort Bloom. Crude Oil (SCO)-3.97%
Franklin FTSE China (FLCH)-4.27%
Bond Funds1mo %
Vanguard Long-Term Bond Index ETF (BLV)0.66%
[Benchmark] Vanguard Total Bond Index (VBMFX)0.54%
Vangaurd L/T Treasury (VGLT)0.51%
iShares JP Morgan Em. Bond (LEMB)0.36%
Vanguard Extended Duration Treasury (EDV)0.14%