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5 CREDIT BUBBLE
BULLETIN Road
to ruin By Doug Noland
intermediating the massive amount
of ongoing Credit necessary to keep this Bubble
Economy inflated. Wall Street "structured finance"
is today faltering badly, now leaving the highly
vulnerable banking system with the task of
sustaining the ill-fated boom. The least bad
course for the Federal Reserve at this point would
have a primary focus on supporting the dollar and
global financial
stability.
WEEKLY
WRAP
For the week, the Dow declined
1.5% (up 9.1% y-t-d), and the S&P500 fell 1.7%
(up 6.4%). The Utilities added 0.6% (up 13.2%),
while the Morgan Stanley Consumer index dipped
0.8% (up 6.0%). The Transports declined 1.3% (up
5.3%), and the Morgan Stanley Cyclical index gave
up 0.9% (up 16.9%). The small cap Russell 2000 was
hit for 2.9% (up 1.3%), and the S&P400 Mid-Cap
index declined 1.0% (up 10.2%). The NASDAQ100
gained 0.9% (up 26%), and the Morgan Stanley High
Tech index added 0.6% (up 18.5%). The
Semiconductors rallied 1.3% (down 2.1%). The
Street.com Internet Index was about unchanged (up
22.4%), while the NASDAQ Telecommunications index
gained 1.5% (up 24.7%). The Biotechs declined 1.2%
(up 9.6%). Financial stocks were under heavy
selling pressure. The Broker/Dealers sank 5.7%
(down 9%), and the Banks were clobbered for 6.7%
(down 17.9%). With bullion surging $19.95 to a
27-year high, the HUI Gold index jumped 4.5% (up
29.9%).
Short-term perceived safe debt was
under intense demand. Three-month Treasury bill
rates sank 38.5 bps this week to 3.60%. Two-year
government yields fell 10 bps to 3.67%. Five-year
yields dropped 11 bps to 3.95%. Ten-year Treasury
yields declined 9 bps to 4.315%, and long-bond
yields fell 8 bps to 4.62%. The 2yr/10yr spread
ended the week at 64.5. The implied yield on
3-month December '08 Eurodollars dipped 2 bps to
4.085%. Benchmark Fannie Mae MBS yields declined 3
bps to 5.756%, this week notably under-performing
Treasuries. The spread on Fannie's 5% 2017 note
widened 3.5 to 50.6, and the spread on Freddie's
5% 2017 note widened 2 to 50. The 10-year dollar
swap spread increased a notable 4.4 to 68.5.
Corporate bond spreads were mixed, as the spread
on an index of junk bonds ended the week 15 bps
narrower.
Investment grade debt issuers
included Coca-Cola $1.75bn, Motorola $1.2bn,
McGraw-Hill $1.2bn, and Textron $400 million.
Junk issuers included Nuveen Investment
$785 million, Wynn Las Vegas $400 million, Tenneco
$250 million, and CII Carbon $235 million.
Convert issuers included Prologis $1.0bn,
and Champion Enterprises $160 million.
Foreign dollar bond issuance included
Tesco $2.0bn, Commonwealth Bank $1.0bn, Petrobras
$1.0bn, and Panama Canal $100 million.
German 10-year bund yields were unchanged
at 4.17%, while the DAX equities index slipped
1.5% for the week (up 18.7% y-t-d). The Japanese
"JGB" market was volatile, with 10-year yields
ending the week down 3.5 bps to 1.58%. The Nikkei
225 was little changed (down 4.1% y-t-d). Emerging
equities were mixed, while debt markets were for
the most part surprisingly quiet. Brazil's
benchmark dollar bond yields added one basis point
to 5.73%. Brazil's Bovespa equities index rose
another 2.7% (up 44% y-t-d). The Mexican Bolsa
fell 3.4% (up 16.5% y-t-d). Mexico's 10-year $
yields dipped 2 bps to 5.39%. Russia's RTS
equities index gained 1.6% (up 16% y-t-d). India's
Sensex equites index rose another 3.8% (up 44.9%
y-t-d). China's Shanghai Exchange added 3.4%,
increasing y-t-d gains to 116% and 52-week gains
to 212%.
Freddie Mac posted 30-year fixed
mortgage rates declined 7 bps this week to 6.26%
(down 5 bps y-o-y). Fifteen-year fixed rates fell
8 bps to 5.91% (down 11bps y-o-y). One-year
adjustable rates sank 9 bps to 5.57% (up 4bps
y-o-y).
Bank Credit increased $20.9bn
during the week (10/24) to a record $9.067 TN.
Bank Credit has now posted a 14-week gain of
$423bn (18.2% annualized) and y-t-d rise of
$770bn, a 11.2% pace. For the week, Securities
Credit increased $16.6bn. Loans & Leases rose
$4.3bn to a record $6.667 TN (14-wk gain of
$342bn). C&I loans declined $11bn, reducing
2007's growth rate to 20.7%. Real Estate loans
jumped $15.4bn. Consumer loans added $1.5bn.
Securities loans declined $4.0bn, while Other
loans increased $2.3bn. On the liability side,
(previous M3) Large Time Deposits jumped $18bn.
M2 (narrow) "money" rose $9.9bn to $7.383
TN (week of 10/22). Narrow "money" has expanded
$339bn y-t-d, or 5.8% annualized, and $437bn, or
6.3%, over the past year. For the week, Currency
added $0.6bn, while Demand & Checkable
Deposits declined $18.3bn. Savings Deposits jumped
$21.6bn, and Small Denominated Deposits added
$0.4bn. Retail Money Fund assets increased $4.1bn.
Total Money Market Fund Assets (from
Invest. Co Inst) declined $23.8bn last week to
$2.946 TN. Money Fund Assets have now posted a
14-week gain of $3,362bn (56% annualized) and a
y-t-d increase of $564bn (28.0% annualized). Money
fund asset have posted a 52-week gain of $681bn,
or 30.1%.
Total Commercial Paper rose
$9.9bn to $1.882 TN. CP is down $341bn over the
past 12 weeks. Yet asset-backed CP fell another
$8.5bn (12-wk drop of $288bn) to $886bn.
Year-to-date, total CP has dropped $92bn, with
ABCP down $198bn. Over the past year, Total CP has
declined $18bn, or 0.9%.
Asset-Backed
Securities (ABS) issuance slowed to $4.5bn this
week. Year-to-date total US ABS issuance of $502bn
(tallied by JPMorgan) is running a third behind
comparable 2006. At $216bn, y-t-d Home Equity ABS
sales are 55% off last year's pace. Year-to-date
US CDO issuance of $278 billion is running 7%
below 2006.
Fed Foreign Holdings of
Treasury, Agency Debt last week (ended 10/30)
increased $1.6bn to a record $2.032 TN. "Custody
holdings" were up $280bn y-t-d (18.9% annualized)
and $338bn during the past year, or 20%. Federal
Reserve Credit expanded $3.9bn to $862.7bn. Fed
Credit has increased $10.5bn y-t-d and $29.3bn
over the past year (3.5%).
International
reserve assets (excluding gold) - as accumulated
by Bloomberg's Alex Tanzi – were up $1.090 TN
y-t-d (27% annualized) and $1.219 TN
year-over-year (26%) to $5.901TN.
Credit Market Dislocation
Watch November 2 – Financial Times (Gillian
Tett): "The mood in credit derivatives markets
turned ugly on Thursday, with the cost of insuring
corporate debt hitting multi-week highs on both
sides of the Atlantic. Speculation was rife that
leading major investment banks were facing
additional losses linked to complex
mortgage-backed securities, while worries mounted
over the health of major financial guarantors.
'It's scary out there – there's blood on the
streets,' a trader at a US brokerage said. 'It's a
real mess.' Five-year credit default swaps tied to
Citigroup widened to 60 bps, meaning it cost
$60,000 annually to insure Citigroup's debt
against default for five years. A couple of weeks
ago, that figure stood at $27,000. Contracts on
Merrill Lynch…rose $18,000 to $103,000…. Bond
insurers, or monolines, were also hit hard.
'[These triple-A rated companies are] exposed to
the crumbling housing market,' said Gavan Nolan,
an analyst at derivatives data provider Markit…
CDS on MBIA Insurance rocketed to a four-year
high, of 345bp... Ambac Financial climbed to a
five-year high of 310bp. In Europe, the iTraxx
Crossover index of 50 mostly high-yield companies
widened by 18 bp to 338bp, the biggest rise since
August…"
November 2 – Bloomberg (Christine
Richard): "Ambac Financial Group Inc. and MBIA
Inc. were cut to 'in-line' from 'attractive' by
Morgan Stanley, which raised the possibility that
the bond insurers could face a 'downward spiral'
if defaults on mortgages and home equity loans
worsen."
November 1 – Financial Times
(Stacy-Marie Ishmael and Gillian Tett): "The
ongoing crisis in the US housing market is pushing
a key mortgage-linked derivatives index to new
lows, threatening to unleash a further bout of
credit market upheaval. The price swing in the
index, known as the ABX, is particularly
significant, since it is starting to reduce the
value of credit instruments that carried high
credit ratings, and were therefore supposed to be
ultra-safe… Until a couple of months ago, the part
of the ABX index that tracks AAA debt was trading
almost at face value. However, in the past three
weeks it has fallen sharply due to downgrades by
credit rating agencies and a slew of bad data from
the housing sector… The swing could create real
pain for investors, since in recent years numerous
firms have created trading strategies which have
loaded large debt levels onto these 'safe'
securities, precisely because they assumed these
instruments would never fluctuate in price. 'The
last week has seen some of the worst falls in the
ABX market this year, especially higher up the
capital structure [with highly rated debt],' said
Jim Reid, head of fundamental credit strategy at
Deutsche Bank."
November 2 – Bloomberg
(Shannon D. Harrington): "The risk of owning the
debt of Merrill Lynch & Co. and Citigroup Inc.
rose to the highest in at least five years on
speculation that losses from the mortgage-market
collapse will worsen."
November 1 –
Bloomberg (Shannon D. Harrington and Hamish Risk):
"The risk of owning corporate debt reached the
highest in seven weeks as credit-default swap
traders bet that companies, including Citigroup
Inc., will further reduce the value of securities
tied to subprime mortgages. The CDX North America
Investment Grade Series 9 Index, a benchmark for
the cost to protect debt that rises as investor
confidence deteriorates, rose 5.75 basis points to
66.25 bps… Credit-default swaps tied to Citigroup
and Merrill Lynch & Co. are at three-month
highs, while those on bond insurers Ambac
Financial Group Inc. and MBIA Inc. rose to the
most in at least four years."
October 30 –
Financial Times (Stacy-Marie Ishmael and Paul J
Davies): "Investor worries are mounting that the
next big casualties from the credit squeeze might
be the specialist companies that act as guarantors
for bond issuers. These companies, which write
insurance to boost the credit ratings of various
kinds of bonds, have seen their share prices
pummelled and the cost of protecting their debt
against default soar. Over the past week, sector
leaders such as MBIA, Ambac, XL Capital Assurance,
Radian and MGIC have all been hit hard. In recent
years, these companies, known as monolines, have
moved away from their role of guaranteeing, or
wrapping, bonds issued by US municipalities
towards writing business related to structured
asset-backed finance deals, such as
mortgage-backed bonds and collateralised debt
obligations… 'Our conclusion is that MBIA and the
rest of the financial guarantors are facing a
prolonged period of stress,' said Rob Haines, an
analyst at CreditSights…"
November 2 –
Financial Times (Gillian Tett): "This week, a
banking friend made a startling confession. In
recent weeks he has been furtively unwinding some
large investment portfolios linked to subprime
securities. But as he has embarked on this sordid
task, he has discovered that the only effective
way to get rid of these distressed assets is to
avoid putting any tangible price on the trade.
Instead, he has resorted to using a tactic more
normally associated with third world markets than
the supposedly sophisticated arena of high
finance: barter. Barter is the only thing
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