Investment
21 March, 2023

Navigating recent market volatility

This article was written on Friday, 17 March 2023 and provides an overview of recent market volatility, including the closure of Silicon Valley Bank and the challenges faced by Credit Suisse. It discusses the impact of these events on the Australian financial market and the Spirit Super portfolio. The article also includes information about Spirit Super's investment strategy, its Cash portfolio holdings, and the protection of members' funds.

Silicon Valley Bank and Credit Suisse

Recent events in the US banking system, such as the closure of Silicon Valley Bank and the winding up of other smaller banks (Signature and Silvergate), highlight the challenges some financial institutions face in the current economic environment. Silicon Valley Bank was one of the United States’ largest regional banks with around $US200 billion in assets and was a key provider of deposits, working capital facilities and loans to the fast-growing technology and venture capital sector. 

Silicon Valley Bank's failure was sparked by large, unexpected deposit outflows from its customers, predominantly US technology companies and venture capital funds. Silicon Valley Bank held a large portfolio of US Treasury bonds, the value of which had been significantly eroded by the rise in yields over 2022 and early 2023. Silicon Valley Bank was forced to sell these holdings and crystallise losses as a result.

More recently, Credit Suisse Bank also recently sought funding support after a major shareholder refused to fund a new capital raising. This follows a series of fines and legal cases, most notably in relation to the 2021 Archegos Capital Management collapse, which resulted in billions of dollars in losses. The stock has now lost more than 50% of its value since early February.

Market reactions and the Australian financial system

In response to these challenges, central banks and regulatory bodies worldwide have taken various measures to protect depositors and provide liquidity provisions for banks. In the US, Federal Deposit Insurance Corporation (FDIC) placed Silicon Valley Bank into administration and provided guarantees to all depositors while it sought to negotiate the sale of Silicon Valley Bank's assets to a stronger bank. To further assist with systemic liquidity needs, the US Federal Reserve Bank has implemented a new Bank Term Funding Program, which offers one-year loans to banks under easier terms.

In response to challenges faced by Credit Suisse, the Swiss National Bank (SNB) has committed to supporting the stability of the banking sector and the broader economy including the provision of a 50 billion francs (US$54 billion) SNB liquidity facility to Credit Suisse.

These central banks’ responses demonstrate a commitment to ensuring the stability of the financial system, even in the face of challenging global economic conditions. 

Impact on the Australian market and the Spirit Super portfolio

Following the recent events, Australian banking shares have fallen in value due mainly to fears of a global banking system contagion. On Thursday 16 March, the S&P/ASX 200 Index dropped 154 basis points in early trading sessions. Notwithstanding this volatility, we believe the Australian financial system is relatively well-capitalised and resilient in the face of such market shocks, but it remains a key watchpoint for us. Market volatility can affect Australian investors and superannuation funds like Spirit Super, which tend to hold a large portion of their funds in growth assets, like Australian and International Shares. 

Spirit Super had negligible direct exposure to Silicon Valley Bank and Signature, both NASDAQ-listed and part of the MSCI All Country World Index, and no exposure to Credit Suisse shares. The value of our portfolios has fluctuated however in response to broader market volatility. In recent days, yields on long-term bonds have fallen as investors reassess (reduce) their expectations of further near-term rate increases both here and in the United States. This has led to strong gains on the fixed interest portfolio which has offset, to some extent, weakness in share markets.

Long term strategy and resilience of Spirit Super

It's essential to remember that investing always involves ups and downs, and superannuation is a long-term commitment. It is important to balance the desire to hedge against downside risks with the longer-term opportunity cost of being ‘out of the market’ if shares quickly recover. Accordingly, our first line of defence is always diversification – both across different asset classes and across different sectors and assets within each asset class.

The danger with higher inflation and interest rates however, is that diversification doesn’t always work in such environments. And so, from late 2021 Spirit Super took proactive measures to ‘de-risk’ the portfolio in anticipation of higher inflation and interest rates. These measures included exiting a number of higher-risk market segments such as global listed property and emerging market debt, and holding higher levels of cash. We also continue to invest in high-quality Australian infrastructure and property assets.

We will continue to closely monitor the situation and make any necessary adjustments to our investment strategy to protect and grow our members' funds over the long term.

Frequently asked questions from members invested in the Cash option

What does Spirit Super hold in its Cash portfolio?

Spirit Super’s Cash option holds cash, bank bills, term deposits, liquid non-callable deposits (NCDs) and other cash-like instruments with highly-rated domestic and international banks. In Australia, our counterparties include leading banks like Commonwealth Bank, Westpac, National Australia Bank, and ANZ, as well as select regional banks such as Bendigo and Adelaide Bank, and Bank of Queensland. This diversified approach within the domestic banking sector helps mitigate risks associated with individual banks.

In international markets, Spirit Super invests in banks with strong credit ratings, such as JP Morgan, Bank of America, Citibank, and State Street. This selective approach to international investments ensures that the cash option is exposed to stable and well-established banking institutions, thereby reducing the risk of failure due to market volatility or unforeseen crises.

In addition to prioritising highly-rated banks, Spirit Super continuously evaluates the creditworthiness of these institutions to ensure the ongoing safety and stability of members' funds. We also closely monitor global economic trends, regulatory changes, and industry developments to identify any potential risks or opportunities that may impact the Cash option strategy.

By maintaining a diversified portfolio, adopting a prudent strategy, and closely monitoring the global financial landscape, Spirit Super is well-equipped to protect and grow members' funds over the long term, ensuring a secure and stable retirement for its members.

Does the Financial Claims Scheme – an Australian government initiative designed to protect depositors in the event that a bank, building society, or credit union fails – protect my superannuation savings?

The Financial Claims Scheme (FCS) does not directly apply to superannuation, but rest assured that the Australian superannuation system has multiple layers of protection and regulation in place to safeguard your investments. More specifically, Spirit Super operates under the watchful eye of the Australian Prudential Regulation Authority (APRA) and the Australian Securities and Investments Commission (ASIC), ensuring that the fund is managed responsibly and adheres to the prudential guidelines. Spirit Super holds a license from APRA, demonstrating that it meets rigorous management requirements and maintains high standards of operation with ongoing reporting obligations. 

What is the exposure of the Cash option to international banks?

The Cash option has the ability to make deposits and invest in other cash-like instruments with highly-rated domestic and international banks. The most recent update of the option’s holdings indicates that around 35% is invested with international banks.

Where can I see all of Spirit Super’s Cash and other holdings?

Spirit Super’s members can access regular updates about the Cash option's holdings and performance, including its exposure to international banks via the Portfolio Holdings Disclosure and Cash option page

Why is the return the Cash option less than the RBA cash rate of 3.6%?

The Cash option includes both liquid cash and term cash. The liquid cash component includes highly liquid ‘same-day’ cash instruments, including at call deposits and liquid NCDs, which offer rates similar to the RBA official cash rate. It’s important to note that the RBA rate is ’per annum’ and you would have to reinvest at that rate for a full year to earn that return. For instance, the RBA cash rate for most of February was 3.35%. Spirit Super’s return for the month of February was 0.22% or 2.92% annualised after superannuation tax of 15% – before tax, this equates to 3.43%, indicating we outperformed the RBA cash rate by around 0.08% for that month.

In the term cash bucket, there is a mixture of term deposits and notice accounts. The interest rate for a term deposit is locked in for the term of the deposit and this can be up to 12 months. While these rates are typically set at a margin above the RBA cash rate, when rates are rising it can take a while for returns to catch up.

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