Wall Street Rattled by Selloff, Trading Halts at Two Small Banks

Pedestrians walk along Wall Street near the New York Stock Exchange (NYSE) in New York, US, on Wednesday, Nov. 9, 2022. US stocks declined following midterm elections that failed to yield a Republican sweep. Treasuries and the dollar caught bids in a sign of deteriorating risk sentiment. Photographer: Michael Nagle/Bloomberg

(Bloomberg) -- Just a day after Wall Street breathed a sigh of relief with the rescue of First Republic Bank, a tumble in US regional lenders fueled renewed anxiety over financial stability, sinking stocks across the board and spurring a flight to the safest corners of the market.

For many traders, the timing couldn't be worse.

On the eve of the Federal Reserve decision, multiple volatility halts in PacWest Bancorp and Western Alliance Bancorp were seen as disturbing. Both shares were down at least 15% in Tuesday trading. The financial industry weighed heavily on the S&P 500 Index, which sank almost 2% at one point.

Bearish hedge-fund traders were present in a bout of selling that later prompted long-only investors to sell too, according to a note from John Flood, a partner at Goldman Sachs Group Inc.

“Wall Street is quickly hitting the sell button as banking turmoil appears it is not going away anytime soon,” said Ed Moya, senior market analyst at Oanda. “Risk appetite did not stand a chance as traders focused on lingering doubts over the regional banks, rising recession odds, and growing risks that the US could default on its debt next month.”

All of these factors combined are only deepening a sense of uneasiness among investors about the Fed's conundrum.

In addition to the financial strains stemming from bank failures, officials remain caught between stubbornly high inflation and data pointing to an economic downturn — such as Tuesday's JOLTS record of job openings that fell to the lowest in nearly two years.

Debt Ceiling

To make matters worse, there's brewing angst over the US debt ceiling — which only adds to the whole discussion on whether the Fed should pause after hiking in May to prevent a more severe economic recession.

While swaps are still pricing in a quarter-point Fed rate increase this week, traders trimmed their bets on a subsequent hike — while amping up wagers on cuts before the year is over.

With all those elements in play, it shouldn't come as a surprise that bonds got heavily bid Tuesday — especially after the selloff of the previous session. Two-year rates, which are more sensitive to imminent Fed moves, plunged as much as 21 basis points to below 4%.

Meantime, Treasury bill yields for June topped 5% in the wake of a warning from Janet Yellen that the US government could run into debt-ceiling limitations as soon as the start of next month.

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