Page 2 of 5 CREDIT BUBBLE
BULLETIN Confirmations on the bleak
side Commentary and weekly review by Doug
Noland
the bullish persuasion. It was,
after all, egregious mortgage finance bubble
excesses - and resulting Household and Financial
Sector balance sheets loaded with debt - that were
responsible for booming corporate cash-flows and
relatively stable balance sheets. Well, these days
it is becoming increasingly apparent that a
significant portion of corporate America’s "cash"
hoard is stuck in auction-rate securities and
various other credit instruments - today offering
little in the way of actual liquidity. This is now
a major unfolding issue.
Scores of
companies, previously believing they enjoyed easy
access to new finance, now face the inability to
raise new funds at any cost. At the same time,
many companies that thought
they were
sitting on piles of safe and liquid financial
resources now recognize they may instead be facing
big losses. Moreover, the recognition of problems
on both the Asset and Liability side of corporate
balance sheets comes concurrently with the
realization that the so-called sound and resilient
US economy is in serious trouble. Simultaneously,
confidence in "money" and money-raising is
faltering, with negative ramifications for already
liquidity-challenged markets and the already
weakened real economy.
There is a
confluence of factors behind this week’s major
widening in corporate spreads, especially in the
"safest" sectors. Major indices of investment
grade credit spreads blew out to record wide
levels. The CDX index widened 12 basis points to a
record 157 bps, increasing its three-week gain to
50 bps. Agency debt spreads widened 2 bps to the
widest level since last November. Yet GSE
(government-sponsored enterprises) mortgage-backed
securities (MBS) spreads were this week’s
eye-opener. Fannie Mae benchmark MBS spreads
surged another 17 bps to 192, the widest spreads
in eight years. For perspective, this spread has
averaged 76 bps since the end of 2002.
I
will take the dramatic widening in investment
grade and agency spreads as confirmation that the
unfolding credit crisis has made a major leap
toward the heart of the credit system. I have no
way of knowing to what degree widening spreads are
being dictated by "technical" hedging-related
trading dynamics, as opposed to fundamental issues
with respect to the faltering US economy; rapidly
deteriorating corporate balance sheets; a highly
susceptible leveraged speculating community; the
vulnerable GSEs; a distressingly illiquid credit
market; and heightened systemic risk more
generally. To be sure, a strong case can be made
that the current backdrop is quite detrimental to
a highly leveraged and speculative credit system.
The markets rallied late on Friday - and perhaps
they will rally further next week - on talk of a
bailout for troubled monoline insurer Ambac.
Unfortunately, there has been ample confirmation
that the evolving credit crisis has quickly
spiraled way beyond the monolines.
WEEKLY WATCH It was volatile
from beginning to end. For the week, the Dow added
0.3% (down 6.7% y-t-d) and the S&P500 0.2%
(down 7.8%). The Transports declined 0.5% (up
2.4%), and the Utilities fell 1.0% (down 8.1%).
The Morgan Stanley Consumer index was unchanged
(down 6.3%), while the Morgan Stanley Cyclical
index added 0.6% (down 5.4%). The small cap
Russell 2000 declined 0.9% (down 9.2%), while the
S&P400 Mid-Caps gained 0.7% (down 6.7%). The
NASDAQ100 slipped 0.4% (down 14.9%), and the
Morgan Stanley High Tech index dipped 0.1% (down
13.5%). The Semiconductors rallied 1.2% (down
13.8%). The Street.com Internet Index increased
0.4% (down 9.9%), and the NASDAQ
Telecommunications index gained 2.4% (down 9.3%).
The Biotechs sank 2.9% (down 10.1%). The
Broker/Dealers declined 0.5% (down 7.4%), while
the Banks added 0.2% (down 1.1%). With Bullion
surging $43.05, the HUI Gold index advanced 6.4%
(up 13.5%).
Three-month Treasury bill
rates declined 4 bps this past week to 2.19%.
Two-year government yields jumped 15 bps to 2.06%.
Five-year T-note yields rose 10 bps to 2.86%, and
ten-year yields increased 4 bps to 3.81%.
Long-bond yields were little changed at 4.58%. The
2yr/10yr spread ended the week at 175 bps. The
implied yield on 3-month December ’08 Eurodollars
jumped 23 bps to 2.615%. Benchmark Fannie MBS
yields surged a notable 22 bps to 5.73%, again
this week dramatically under-performing
Treasuries. This put the two-week rise in
benchmark MBS yields at a stunning 54 bps, with
spreads versus Treasuries widening to the widest
level in eight years (192bps). The spread on
Fannie’s 5% 2017 note was about one wider at 72
bps and the spread of Freddie’s 5% 2017 note one
wider at 71. The 10-year dollar swap spread
increased 6.25 to 72.75, the widest since
year-end. Corporate bond spreads were wider,
especially in the (dislocated) investment-grade
sector. An index of junk bonds spreads declined 17
bps.
There was little debt issuance this
week. Convert issuance included NASDAQ Stock
Market $425 million and Silver Standard $120
million.
German 10-year bund yields rose 5
bps to 4.0%, while the DAX equities index slipped
0.4% (down 15.6% y-t-d). Japanese "JGB" yields
were unchanged at 1.45%. The Nikkei 225 declined
0.9% (down 11.8% y-t-d and 25.4% y-o-y). Emerging
debt and equities markets were, again, quite
volatile. Brazil’s benchmark dollar bond yields
dropped 17 bps to 5.78%. Brazil’s Bovespa equities
index surged 5.4% (up 1.1% y-t-d). The Mexican
Bolsa rallied 2.7% (unchanged y-t-d). Mexico’s
10-year $ yields added 2 bps to 5.28%. Russia’s
RTS equities index rallied 4.5% (down 9.2% y-t-d).
India’s Sensex equities index sank 4.2%, extending
y-t-d declines to 14.5%. China’s Shanghai Exchange
fell 2.8% this week (down 16.9% y-t-d).
Freddie Mac posted 30-year fixed mortgage
rates surged 32 bps this week to 6.04%. Mortgage
rates were up 56 bps in four weeks, with borrowing
costs now down only 18 bps from the year ago
level. Fifteen-year fixed rates jumped an
extraordinary 39 bps to 5.64% (down 33bps y-o-y).
One-year adjustable rates dipped 2 bps to 4.98%
(down 51bps y-o-y).
Bank Credit declined
$22.3bn during the most recent data week (2/13) to
$9.315 TN. Bank Credit has posted a 30-week surge
of $671bn (13.5% annualized) and a 52-week rise of
$943bn, or 11.3%. For the week, Securities Credit
rose $9.6bn. Loans & Leases dropped $31.9bn to
$6.851 TN (30-wk gain of $527bn). C&I loans
added $0.3bn, with one-year growth of 21.1%. Real
Estate loans fell $9.6bn (up 7.0% y-o-y). Consumer
loans increased $2.0bn. Securities loans dropped
$14.3bn, and Other loans declined $10.4bn.
Examining the liability side, Deposits declined
$20.4bn.
M2 (narrow) "money" supply rose
$16.3bn to a record $7.586 TN (week of 2/11).
Narrow "money" expanded $123bn over the past six
weeks, with a y-o-y rise of $484bn, or 6.8%. For
the week, Currency added $0.8bn, while Demand
& Checkable Deposits dropped $25.1bn. Savings
Deposits jumped $33.4bn, while Small Denominated
Deposits dipped $2.1bn. Retail Money Fund assets
increased $9.4bn.
Total Money Market Fund
assets (from Invest Co Inst) rose another $20bn
last week (7-wk gain $295bn) to a record $3.408
TN. Money Fund assets have posted a 30-week rise
of $824bn (55% annualized) and a one-year increase
of $988bn (41%).
Asset-Backed Securities
(ABS) issuance slowed to $2.2bn. Year-to-date
total US ABS issuance of $31bn (tallied by
JPMorgan) is running only 30% of the level from
comparable 2007. Home Equity ABS issuance of $197
million compares to $53bn in early 2007.
Year-to-date CDO issuance of $1.8bn compares to
the year ago $40bn.
Total Commercial Paper
sank $17.8bn to $1.817 TN. CP has declined $406bn
over the past 28 weeks. Asset-backed CP fell
$11.7bn (28-wk drop of $411bn) to $784bn. Over the
past year, total CP has contracted $198bn, or
9.8%, with ABCP down $272bn, or 25.7%.
Fed
Foreign Holdings of Treasury, Agency Debt last
week (ended 2/20) jumped $17.3bn to $2.130 TN.
"Custody holdings" were up $73.8bn y-t-d, or 23.3%
annualized, and $304bn year-over-year (16.6%).
Federal Reserve Credit expanded $8.5bn last week
to $867bn. Fed Credit has contracted $6.7bn y-t-d,
or 5.0% annualized, while having expanded $15.2bn
y-o-y (1.8%).
International reserve assets
(excluding gold) - as accumulated by Bloomberg’s
Alex Tanzi – were up $1.347 TN y-o-y, or 27%, to a
record $6.344 TN.
Global Credit Market
Dislocation Watch February 19 – Bloomberg
(Jody Shenn): "The extra yield that investors
demand to own agency mortgage-backed securities
over 10-year US Treasuries rose to an eight-year
high as record spreads on other debt hurt demand."
February 21 – Financial Times (Sarah
O’Connor, Robert Cookson and Michael Mackenzie):
"Credit markets were thrown into fresh turmoil
yesterday as the cost of protecting the debt of US
and European companies against default surged to
all-time highs. The sharp jump, which rivalled the
market swing at the height of last summer’s credit
shake-out, came as investors unwound highly
leveraged positions in complex structured
products. The move was in part prompted by fears
of further unwinding as investors rushed to exit
before conditions worsened. ‘There’s a domino
effect taking place,’ said Mehernosh Engineer,
credit strategist at BNP Paribas. ‘We are
unwinding three years of excesses in the space of
three days.’ The cost of insuring the debt of the
125 investment-grade companies in the benchmark
iTraxx Europe rose by more than 20% to as high as
136.9 basis points… That compares with about 51bp
at the start of the year."
February 21 -
The Wall Street Journal (Carrick Mollenkamp): "The
global financial crisis, sparked by troubles in
risky mortgage investments, is rapidly spreading
into a much larger area: the market for securities
tied to the credit of the world’s corporations. US
and European indexes that track the likelihood of
corporate defaults are flashing red as traders and
investors fret about the outlook for the global
economy and the possibility of blowups among some
$6 trillion in complex securities tied to the
value of corporate bonds… While defaults among
companies remain relatively low, the indexes’
moves could prove to be self-fulfilling
prophecies, incurring heavy losses for investors
and making it even harder for people and companies
to borrow money. Adding to the anxiety: Analysts
can only guess at the volume of investments tied
to the indexes, who is holding them and what it
would take to trigger a full-scale selloff."
February 20 – Bloomberg (Abigail Moses and
Shannon D. Harrington): "The cost of protecting
corporate bonds from default
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