Is a Repeat of the Lehman Brothers Crisis Just Around the Corner? The 2022 bear market has drawn a lot of comparisons to the 2008 financial crisis. That’s mostly because it’s the most recent “normal” recession. (The Covid-19 crash doesn’t count).
Obviously, that’s a spooky comparison. But astute investors have noted that the 2008 crash was exacerbated by the bankruptcy of Lehman Brothers. It was a so-called “Black Swan” event that very few saw coming. And it sparked a financial contagion that spread across the equity markets, sending the S&P 500 down about 40% in just two months.
We haven’t had that Black Swan event in 2022. And so, most investors have written off the 2008 comparisons as overly pessimistic.
But that all changed this past weekend.
On Sunday, ABC Australia reported that a “major international investment bank is on the brink,” citing a credible source.
And everyone on Wall Street knows who they’re talking about…
So, who are they talking about? Will that bank actually blow up like Lehman Brothers? Will its blow-up spark a broader financial contagion that crashes the stock market by 40%? And how should you be positioning your portfolio right now?
Let’s answer all those questions and more. Who Is on the Brink? The major international investment bank that is on the brink, according to ABC Australia, is Credit Suisse (CS).
Credit Suisse has been struggling for about a year now. The bank had significant exposure to Archegos, the highly-leveraged hedge fund that blew up in epic fashion mid-2021. It also had major exposure to Greensill, the fintech disruptor that purported to make financing fairer, which itself imploded in March 2021.
Those two crises cost Credit Suisse billions and put the bank on very unsure footing heading into 2022.
Then the bond markets went crazy. Across North America and Europe this year, government bond yields have soared in a way they’ve never soared before. That’s problematic because it has injected unprecedented volatility into traditionally stable government bond markets. Banks – like Credit Suisse – count on traditionally stable markets to stay balanced. When they get hit with long-lasting unprecedented volatility, bank trading models tend to break.
A well-capitalized bank can handle those breaks. But a struggling bank cannot. Credit Suisse was deeply damaged coming into 2022. Apparently, it is now struggling to just stay above water.
The bank’s credit default swap spreads have just hit their highest levels since the depths of the 2008 financial crisis. That means that the market believes the odds of Credit Suisse going bankrupt today are as high as they were back in late 2008 – when investors thought the entire global financial system was going to collapse. 
We are not going to argue with Mr. Market here. While the odds of a Credit Suisse insolvency event are still below 50% (and even below 30%), the odds are high enough for us to factor this risk into our investment decision-making calculus.
So… what happens to the markets if Credit Suisse goes belly-up? Will a Credit Suisse Collapse Crash the Markets? The spookiest thing about the potential insolvency of a major investment bank is that nobody really knows what will happen afterward.
The investment banking and financial derivatives world is a giant “black box.” We don’t really know what these banks are doing with their risk. And that was the problem in 2008 – all these seemingly unrelated banks were holding each other’s risk, so when one blew up, almost all of them did.
That still could happen today. But it is unlikely.
Since 2008, a series of legal measures have been put in place – especially in the U.S. – to restrict the risk of a financial contagion spreading throughout the banking system. That’s why the Fed regularly runs stress tests on all the major U.S. banks.
The banks have consistently passed and continue to pass those tests.
That’s because they are much better capitalized today. They have much less systemic risk exposure and better risk management practices than they did in 2008.
Therefore, the consensus belief on Wall Street is that a potential Credit Suisse insolvency event would undoubtedly hurt the entire financial system. But it wouldn’t put everyone else on the brink, too.
That’s why most major Wall Street banks have seen their stocks decline “only” 25% to 35% in 2022, versus a 60%-plus meltdown in Credit Suisse stock. 
Still, while a potential repeat of 2008 likely isn’t on the table, a potential deeper drop in stocks still is.
In anticipation of that drop, you need to position your portfolio for success. How Should You Position Your Portfolio? It increasingly feels like we are in the final innings of the 2022 bear market.
Investor sentiment is at record-low levels, on par with where it was when the stock market bottomed in early 2009. The market’s forward price-to-earnings multiple has fallen to its lowest level (16X) since the market bottomed in early 2016. We’re now about 25% off the recent highs – pretty close to what history would deem an “average” bear market drawdown. The midterm elections are just around the corner, and stocks always rally after the midterms.
The end of this selloff is near. But it hasn’t arrived quite yet.
Where we are in the current bear market cycle feels a lot like late 2008/early 2009. During this stretch, the 2008 bear market was in its final innings. But it wasn’t over quite yet.
From November 2008 to March 2009, the S&P 500 dropped another 8% to its bear-market low. Yet, during that time – while the market was undergoing its “final selloff” – certain high-growth stocks actually soared.
Salesforce (CRM) rallied 24%. Booking (BKNG) popped 56%. Amazon (AMZN) soared 76%. Netflix (NFLX ) almost doubled. That’s all while the stock market wrapped up the last leg of its bear market. 
We think history will repeat.
That means that over the next few months, we expect the stock market to drop another 5% to 10%. Earnings season will disappoint. 2023 earnings estimates will be revised lower. Valuations will reset to those lower earnings estimates. And financial stress in the system will continue to build.
Concurrent to that market selloff, we expect high-quality high-growth stocks to soar in late 2022 and early 2023, just like they did in late 2008 and early 2009.
But it won’t be Amazon, Netflix, and Salesforce stocks leading the rally. This time, it will be the next Amazon, the next Netflix, and the next Salesforce. |
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