Today's quote: “Instruct regulators to look for the newest fad in the industry and examine it with great care. The next mistake will be a new way to make a loan that will not be repaid.” William Seidman, former head of the FDIC
1--Government Wrong on Jobs and Wages Again, Trim Tabs
Excerpt: ….How can an economy that is growing so slowly produce such big declines in unemployment.”
The US Bureau of Labor Statistics has been reporting 200,000 + new seasonally adjusted jobs being created monthly. What is more the Bureau of Economic Analysis is also reporting a healthy 4% to 5% recent growth in wages and salaries for the country as a whole.
The reality is quite different. California, for example, with 12% of the US population and probably a much bigger percentage of economic activity, just reported a 16.5% year over year drop in February income tax collections. Similarly, February sales tax collections also dropped 12.4% year over year. And prices of high end homes are still dropping. To me, none of that sounds like an economic recovery in the making.
Our analysis of US withheld income and employment taxes tells us that wages and salaries are growing roughly about as fast as inflation and that job growth has been around 100,000 per month less than being reported by the BLS. Remember, a good deal of the seeming early 2012 gains were boosted by expiring 2011 tax credits and very warm weather. If indeed the gains were due to weather and tax credits, then the US economy should slow through the rest of this year, or until the next round of Quantitative Easing.
So, to answer Jon Hilsenrath’s question, the reason for the gap between the actual US economy and BLS job numbers are that the BLS numbers are wrong.
2--Trouble Finding a Loan in Euro Zone, WSJ
Excerpt: "We have always been financially responsible, and yet banks are simply not lending because they don't want to take any risks," said Ms. Mateus, 40 years old and daughter of the company's founder. "And there are many others businesses facing the same problem." A spokesman for Porto-based BPI said the bank doesn't comment on specific clients.
While companies blame the banks for the lack of credit, bank executives are blaming the weak economy.
Midsize Spanish lender Banca Cívica SA took €9.1 billion in cheap three-year funding from the ECB. Instead of plowing these funds into the Spanish economy, it plans to purchase some €6 billion in Spanish debt, allowing it to profit on the higher interest rates that sovereign bonds offer....
Spanish banks cut lending by 3.3% in December from the same month a year ago, the biggest drop recorded since the Bank of Spain started tracking these numbers in 1962.
"Credit in the Spanish banking sector has been contracting at much higher levels than the European Union average," Spanish Finance Minister Luis de Guindos said at a banking conference in Madrid last week.
In Portugal, lending to the private sector fell 3.5% in December from a year ago, faster than in previous months....
In Portugal, the current credit contraction is worsening its challenging economic conditions. Fears that the country already is caught in a recessionary trap have kept its bond prices sharply lower, with many investors betting the country is next in line after Greece to have its debt restructured. Since Portugal hasn't been able to expand more than 1% a year on average over the past decade, analysts doubt it may be able to service its debt in the long term.
"The number of bankruptcies is shooting up, both from individuals who can't pay their mortgages or car loans, to companies, mostly small and medium-size," said Raul Gonzales, president of the Portuguese Association of Bankruptcy Administrators.
Bankruptcy filings by companies and individuals in Portugal rose more than 50% last year to about 10,000, and continue rising this year, Mr. Gonzales said.
In Spain, bankruptcies rose 12% last year, according to business information firm Informa D&B....
In both countries, unemployment levels are shooting up. Spain's jobless rate has almost tripled since the start of the crisis in 2007, currently surpassing 23%. Portugal's jobless rate almost doubled to 14.8% in January, according to Eurostat, the EU statistics agency.
The Portuguese government and local bank executives say the economy must reduce its reliance on credit following its €78 billion bailout. Portugal's private-sector debt currently represents more than 280% of the country's gross domestic product.
"There isn't a way we can rebalance credit and at the same time keep giving it," Banco BPI Chief Executive Fernando Ulrich said at a recent conference.
Governments are trying to alleviate the credit squeeze by setting up special funding lines for small businesses. In Spain, the government has drawn up a €35 billion credit line with several banks that it will use to pay bills owed by public entities to their suppliers, many of which are small businesses. Portugal's government, meanwhile, is also seeking funds to help indebted state-owned companies in the hope that banks could then increase lending.
3--Chris Cook: Spikes and Speculation in the Oil Market – Flash Crash Part Deux?, naked capitalism
Excerpt: If there is one thing that the history of commodity markets tells us it is that if producers can support and manipulate prices in their favour, then they will....
In relation to the 2008 spike which burst that bubble, some sore losers at Semgroup blamed Goldman Sachs for a market coup of which they were the principal casualty:
What transpired at Semgroup was no less than a $500 billion fraud on the people of the world,” says John Catsimatidis, the billionaire grocer turned oil refiner who is attempting to reorganize Semgroup in bankruptcy court.
The $500 billion is how much the world would have overpaid for crude had a successful scam pushed up oil prices by $50 a barrel for 100 days.
But since 2009, the principal beneficiary – and likely facilitator – of the more recent bubble in prices appears to be J P Morgan Chase, who have had a long and fruitful relationship with the Saudis. Their hire from the wreckage of Lehman Brothers of the former Goldman Sachs oil trading star Jeffrey Frase appears to have been an inspired move which has been a major contributor to their phenomenal recent profits from oil trading.
But whatever the truth behind these murky oil market dealings, I agree with Kemp’s view that market conditions today are not dissimilar to the position in May 2011 when the WTI price fell dramatically in a matter of days, and that the market is similarly exposed today to a ‘flash crash’ like that on May 5th 2011.
I stand by my view that the underlying position of demand in the oil market is such that a flash crash may both wipe out the speculators and then continue, possibly to the extent of taking down the clearing houses which I believe are under-capitalised for the ‘fat tail’ risks they run
4--The American economy; unmired at last, The Economist
Excerpt: But if adverse events elsewhere explain why GDP grew by only 1.7% last year, they cannot explain why growth has averaged a mere 2.5% since mid-2009. For that, blame the drag that any economy in the aftermath of a financial crisis must suffer: households and businesses are paying down, or defaulting on, old loans, rather than taking out new ones to invest and spend; banks are reluctant to lend because of depressed collateral values or regulatory scrutiny. Monetary and fiscal stimulus can cushion the worst of these impacts, but eventually conventional monetary policy reaches its limits and fiscal stimulus turns, sometimes prematurely, to austerity. Underlying this is the reallocation of capital and labour from sectors that grew too fat in the boom years.
These sources of drag are now diminishing. A year ago total bank loans were shrinking. Now they are growing. Loans to consumers have risen by 5% in the past year, which has accompanied healthy gains in car sales (see chart). Mortgage lending was still contracting as of late 2011 but although house prices are still edging lower both sales and construction are rising....
Manufacturing employment, which declined almost continuously from 1998 through 2009, has since risen by nearly 4%, and the average length of time factories work is as high as at any time since 1945. Since the end of the recession exports have risen by 39%, much faster than overall GDP. Neither is as impressive as it sounds: manufacturing employment remains a smaller share of the private workforce than in 2007, and imports have recently grown even faster than exports as global growth has faltered and the dollar has climbed. Trade, which was a contributor to economic growth in the first years of recovery, has lately been a drag.
But economic recovery doesn’t have to wait for all of America’s imbalances to be corrected. It only needs the process to advance far enough for the normal cyclical forces of employment, income and spending to take hold. And though their grip may be tenuous, and a shock might yet dislodge it, it now seems that, at last, they have.
5--Explaining America's macro puzzles, The worst of all worlds, The Economist
Excerpt: The first puzzle: why is GDP growing so slowly? Since the recession ended, growth has averaged 2.5%, roughly around its pre-recession trend-rate, which means no progress closing the massive gap between actual and potential output that opened over the course of the recession. We know recoveries are weaker after financial crises but they are still supposed to be recoveries, i.e. the output gap should close, albeit slowly.
The second puzzle: unemployment is falling more quickly than the GDP data can explain...
Or you could go with a simpler but more pessimistic explanation: both the level and growth rate of American potential output is much lower than we think. This would resolve all these puzzles: GDP growth of 2.5% is above, not at, trend, the output gap is closing, and it was probably smaller than we thought to begin with. That would explain why unemployment is falling so quickly, and why core inflation hasn’t fallen further. The excess supply of workers and products that ought to be holding back prices and wages is not as ample as we thought.
So this explanation has the merit of simplicity; is it plausible?...
Labour force participation seems to have settled at 64%, two percentage points lower than its pre-recession level. If that drop is permanent, it would alone entail a significant decline in the level of potential output. What about productivity? My colleague notes there’s a healthy debate going on about whether trend productivity has slowed. I don’t know the answer, but it’s clear that actual productivity has been pretty unimpressive for this stage of recovery (see the nearby chart from Barclays), and certainly compared to a decade ago. For all the talk of social media IPOs, Apple’s market capitalisation and the money pouring into alternative energy, none of these represent transformative technologies with much impact on productivity.
6--Why The Huge Spike in Oil Prices? "Peak Oil" or Wall Street Speculation?, F. William Engdahl, Global Research
Excerpt: Both the war danger and peak oil explanations are off base. As in the astronomic price run-up in the Summer of 2008 when oil in futures markets briefly hit $147 a barrel, oil today is rising because of the speculative pressure on oil futures markets from hedge funds and major banks such as Citigroup, JP Morgan Chase and most notably, Goldman Sachs, the bank always present when there are big bucks to be won for little effort betting on a sure thing. They’re getting a generous assist from the US Government agency entrusted with regulating financial derivatives, the Commodity Futures Trading Corporation (CFTC).
...demand for crude oil worldwide is not rising, but rather is declining in the same period. The International Energy Agency (IEA) reports that the world oil supply rose by 1.3 million barrels a day in the last three months of 2011 while world demand increased by just over half that during that same time period....
Playing with ‘paper oil’
A brief look at how today’s “paper oil” markets function is useful. Since Goldman Sachs bought J. Aron & Co., a savvy commodities trader in the 1980’s, trading in crude oil has gone from a domain of buyers and sellers of spot or physical oil to a market where unregulated speculation in oil futures, bets on a price of a given crude on a specific future date, usually in 30 or 60 or 90 days, and not actual supply-demand of physical oil determine daily oil prices.
In recent years, a Wall Street-friendly (and Wall Street financed) US Congress has passed several laws to help the banks that were interested in trading oil futures, among them one that allowed the bankrupt Enron to get away with a financial ponzi scheme worth billions in 2001 before it went bankrupt.
The Commodity Futures Modernization Act of 2000 (CFMA) was drafted by the man who today is President Obama’s Treasury Secretary, Tim Geithner. The CFMA in effect gave over-the-counter (between financial institutions) derivatives trading in energy futures free reign, absent any US Government supervision, as a result of the financially influential lobbying pressure of the Wall Street banks. Oil and other energy products were exempt under what came to be called the “Enron Loophole.”
In 2008 during a popular outrage against Wall Street banks for causing the financial crisis, Congress finally passed a law over the veto of President George Bush to “close the Enron Loophole.” And as of January 2011, under the Dodd-Frank Wall Street Reform act, the CFTC was given authority to impose position caps on oil traders beginning in January 2011....
Curiously, these limits have not yet been implemented by the CFTC. In a recent interview Senator Bernie Sanders of Vermont stated that the CFTC doesn't "have the will" to enact these limits and "needs to obey the law.” He adds, "What we need to do is…limit the amount of oil any one company can control on the oil futures market. The function of these speculators is not to use oil but to make profits from speculation, drive prices up and sell."1 While he has made noises of trying to close the loopholes, CFTC Chairman Gary Gensler has yet to do so. Notably,Gensler is a former executive of, you guessed, Goldman Sachs. The enforcement by the CFTC remains non-existent.
The role of key banks along with oil majors such as BP in manipulating a new oil price bubble since last Autumn, one detached from the physical reality of supply-demand calculations of real oil barrels, is being noted by a number of sources.
Current estimates are that speculators, that is futures traders such as banks and hedge funds who have no intent of taking physical delivery but only of turning a paper profit, today control some 80 percent of the energy futures market, up from 30 percent a decade ago....
"There are 50 studies showing that speculation adds an incredible premium to the price of oil, but somehow that hasn't seeped into the conventional wisdom," Greenberger said. "Once you have the market dominated by speculators, what you really have is a gambling casino."...
The issue of unbridled and unregulated oil derivatives speculation by a handful of big banks is not a new issue. A June 2006 US Senate Permanent Subcommittee on Investigations report on “The Role of Market Speculation in rising oil and gas prices,” noted, “…there is substantial evidence supporting the conclusion that the large amount of speculation in the current market has significantly increased prices.”
The report pointed out that the Commodity Futures Trading Trading Commission had been mandated by Congress to ensure that prices on the futures market reflect the laws of supply and demand rather than manipulative practices or excessive speculation....
The moment that it becomes clear that the Obama Administration has acted to prevent any war with Iran by opening various diplomatic back-channels and that Netanyahu is merely trying to use the war threats to enhance his tactical position to horse trade with an Obama Administration he despises, the price of oil is poised to drop like a stone within days.
7--Satyajit Das: “All Feasts Must Come to an End” – Fake Goods, Fake Growth?, naked capitalism
Excerpt: China’s large population and huge internal market provide a significant incentive to co-operation. As part of a deal to establish mutual swap lines between the central banks of China and Japan, Japanese investors will gain access to the domestic Chinese bond market.
Isolationism is not a given. But criticism of China’s policies, losses on its foreign investment, domestic needs and perceived weakness of developed economies and their limited tangible future benefit may drive China to re-assess it policy of international re-engagement.
China’s adjustment will affect the global economy.
The global economy increasingly looks to China to drive the world’s growth. These febrile expectations are ill founded. China’s GDP is only around 20% of the combined GDP of the US, Europe and Japan, which make up around 60% of global output. The view that China, because of its large population, can compensate for a decrease in consumption in the developed countries is fanciful. China’s consumption is only a little more than France, a little less than Germany and around 1/8th of the US.
In the aftermath of the crisis, industrial and direct investors have looked at China for earnings growth and returns. High growth rates, fables of urbanization, rising domestic consumption and the need for investment in upgrading infrastructure have attracted investments. Fairy tales about how a billion Chinese would urbanise and consumerise, driving 10 % growth forever and replacing America as the global consumer of last resort captivated audiences at business conferences. In reality, a major source of interest in China and other emerging markets was that it wasn’t America, Europe or Japan.
Investors generally chose to ignore the truth underlying the fairy tales, ignoring how the growth was going to be achieved. China’s debt driven and investment fuelled growth is now vulnerable. There is a significant amount of unproductive investment and mis-allocated capital. Some of this will manifest itself in the form of bad loans.
8--The Collapse of Repo--Interview with Gary Gorton, Yale University finance economist on the growth and collapse of shadow banking, FRB of Minneapolis
Region: Let’s go back to causes of the crisis, if we could. Why did the repo market collapse? What caused the transition from insensitivity to sensitivity of debt? Why did what seemed to be a house of bricks turn into a house of cards?
Gorton: It looks a lot like the 19th century banking panics in that sense. Those panics tended to happen at business cycle peaks. Information arrived, told you that a recession was coming. And if that shock was above a certain threshold, there was a panic. There was never a panic when that shock wasn’t over the threshold, but every time it was over the threshold, there was.
The same thing happened this time. There was a shock. The shock by itself wasn’t big enough to cause a global financial meltdown. The shock was that house prices didn’t rise.
Region: And that was reflected in the ABX indexAn index that tracks the performance of a basket of credit default swaps based on 20 bonds that consist of U.S. subprime home mortgages. Credit default swaps are like insurance contracts that allow buyers and sellers to trade risk. ABX contracts allow traders and investors to take positions on subprime securities without actually holding them. A decline in the ABX suggests a decline in confidence that the underlying subprime mortgages will be repaid as expected.. That was the new information.
Gorton: Yes, the house price decline had the biggest impact on subprime mortgages, and that’s the information that was revealed by trading the ABX index, although I think it was widely known and understood, probably, beforehand. But the question is, again: How could that shock lead to such a big crisis?
Remember: At the time, subprime mortgages outstanding totaled about $1.5 trillion. If all of that had defaulted with zero recovery, that would not have been a global financial crisis. That would have been a problem, because poor and minority people received a disproportionate share of these subprime mortgages. And surely there were problems with all sorts of other things—underwriting standards, broker incentives—but they didn’t constitute or cause a global financial crisis. So what happened?
What happened, I think, is that the depositors in the repo market got nervous to the extent that the only way to protect themselves against agents producing private information was to ask for a buffer. Let’s go back to the repo market. In the repo market, I give you $100 million; you give me $100 million worth of bonds. Let’s say those bonds are AAA, credit-card-linked bonds, an asset-backed security. The only way I can lose as a depositor is if you fail. I am then allowed to unilaterally terminate the agreement, and I go to sell my bonds and I fetch less than $100 million.
Now, if the shock causes me to worry that when I sell my bonds somebody will have produced private information (because now, unlike before, it’s profitable to do that), then I can protect myself by saying, “I’m not going to give you $100 million. I’m only going to give you $80 million, and you give me $100 million of bonds as collateral.”
So that gives me a 20 percent buffer against that possible loss. For you, however, that’s a big problem because you were financing $100 million with me before and now you’re only financing $80 million, and so now you have to finance the other $20 million somewhere else.
Region: This was the increase in haircuts that occurred in the early stages of the crisis.
Gorton: Right. This was the increase in haircuts. An increase in haircuts is a withdrawal from this banking system. There are several studies that allow us to put some numbers on this. With Andrew Metrick, I’ve estimated the size of the repo market; two economists at the BIS [Bank for International Settlements] have estimated the size of the repo market independently and in a separate way; and there’s an IMF [International Monetary Fund] economist who has also estimated the size of the repo market, again, with a third method. And we have another important piece of information, a very good survey of the European repo market, which is widely viewed as being much smaller than the U.S. market. So, if you look at all of this information, the size of the repo market, conservatively, was $10 trillion.
Region: This is just repo?
Gorton: Right, just repos. Never mind about asset-backed commercial paper or the rest of it.
Region: So shadow banking is—or was—huge. Possibly even larger than standard, regulated banking.
Gorton: The total assets in the regulated banking sector in the U.S. are $10 trillion.
Let’s do just a back-of-the-envelope calculation: If haircuts go from 0 percent to 30 percent, on average, that’s $3 trillion the shadow banking system has to raise. The run is that depositors want $3 trillion. There’s no place to get $3 trillion. And we know what happened over the course of the crisis. The Fed ends up buying $2 trillion, and commercial banks end up buying $1 trillion. But the process of transferring these assets is very painful.
Region: What’s the current status of shadow banking?
Gorton: Regulated banks are sitting on over $1 trillion of reserves and really don’t lend. And since they’re not lending, there’s not a lot to securitize, and the securitization market is a shadow of its former self. The banking system is really in a shambles. You can see in all the current issues about foreclosure that the bleeding is continuing. It’s not that the system is healthy and it won’t lend. It’s not healthy—either the traditional system or the shadow banking system.
But I would emphasize that there are some constructive, positive things that we could do in this area.
Region: Good, let’s talk about regulatory reform. In your paper with Andrew Metrick, you say that the Dodd-Frank Act takes some positive steps but that there continue to be three major gaps, and you offer what I’ll call the Gorton-Metrick proposal of narrow-funding banks.2 Could you elaborate on what you see as gaps in Dodd-Frank and tell us why NFBs could address that? Also, what are your thoughts about Fed Governor Tarullo’s response to your proposal?3
Gorton: A constructive policy I think would be a reform that did two things. First, it would remove the vulnerability of the repo market to runs. And second, it would also re-create confidence in securitization so that we could get the banking system functioning again. Those would be the two things that you need to accomplish for a constructive reform.
Now, Dodd-Frank doesn’t do that. Dodd-Frank addresses some things that perhaps needed to be addressed: some infrastructure issues, consumer protection. For these things, it depends on how the rules are written. We’ll see what happens. But with regard to the core issue, I think it’s like what happened after every panic in the 19th century. Reforms were passed, and we went on to the next crisis.
9--As crisis fades, risk returns to asset-backed debt – Moody's, IFR
Excerpt: As the credit crisis recedes and underwriting standards begin to loosen, bonds backed by consumer debt such as auto loans, credit card payments, and student loans are becoming increasingly risky, Moody’s said on Thursday.
Relaxed underwriting standards, more complex structures, and new untested market participants are just three of the trends suggesting that risk is on the rise for some sectors of the asset-backed securities market, Moody’s said in a report.
Even in the residential mortgage sector, which has not seen a significant return of private-label securitization, riskier non-prime, non-traditional mortgage originations are appearing.
With credit standards slipping in asset classes such as subprime auto loans, and risky crisis-era structural features showing up in transactions, credit rating agencies need to make sure they are keeping up with the deteriorating credit standards and rating the these bonds appropriately – which means withholding their coveted Triple A rating if it is not deserved, or making sure there are other features that mitigate the risks, said Moody’s.
Some of the Moody’s competitors have recently given Triple A ratings to ABS transactions that, in its view, did not deserve the top grades, particularly in the subprime auto space.
“We want to make sure that the credit protections that investors have keep pace with the evolution of the [securitization] market,” said Claire Robinson, the head of new-issue structured finance ratings at Moody’s and author of the report.
“There’s a natural evolution in the credit cycle, and after the huge credit crunch came about as part of the crisis, we are now seeing the beginnings of credit loosening, which is normal. But as underwriting loosens, we need to make sure we’re keeping an eye on investor protections in these deals.
“Non-traditional issuers and/or collateral are successfully coming to market again, indicating that investors have more of an appetite for risk.”
AAA not deserved on some deals
The riskiness of securitizations is still low and has not approached the level it reached in the early to mid-2000s, Robinson said, much less the level it reached at the height of what is now generally considered the credit bubble in 2006 and 2007.
ABS reached its issuance peak in 2006 at US$754bn.
However, if the normal pattern of the credit cycle plays out, the easing of credit that took place in 2011 will persist into 2012 and beyond, she said.
Originators have begun to ease underwriting standards, which is a natural progression from the extremely tight credit conditions that followed the onset of the financial crisis. However, in sectors such as subprime auto-loan securitizations, where underwriting is returning to its pre-recession norm, losses on loan pools backing auto ABS are bound to increase.
Issuers can compensate for this risk with the proper level of so-called credit enhancement, or the buffer protecting investors in the most senior bonds. Sometimes structural enhancements help mitigate the risk as well.
However, Moody’s would not have assigned Triple A ratings to certain recent transactions that it did not rate, including a subprime auto deal issued by Exeter Finance Corp, which received high investment-grade ratings from Standard & Poor’s and DBRS.
Even those two rating agencies disagreed on the top slice of the transaction: S&P assigned it a AA rating while DBRS awarded it a AAA. The US$200m deal priced on February 23.
S&P did not immediately return a call, while DBRS was unavailable for comment.
“Exeter is small and unrated, with limited experience and little asset performance history,” Moody’s said. “The resulting potential for volatility in asset performance makes high invest-grade ratings inappropriate.”
Subprime auto securitization has been increasing recently. This week alone, asset-backed backed offerings from Santander Consumer USA and Consumer Portfolio Services (CPS) were increased in size due to investor demand and oversubscribed, meaning that the demand for the bond exceeded the amount of issuance available several time over.
Similarly, in the credit card sector, Moody’s said that the senior classes of bonds sponsored by issuers such as Cabela’s, World Financial Network, CompuCredit and 1st Financial do not merit Aaa Moody’s rating because of the weaker credit profile of the sponsors and the risk that they may not service the debt appropriately.
Moody’s also noted that the volume of mailings in 2011 soliciting credit card customers was about double the level of 2010, with an increased emphasis on offerings to individuals with less than pristine credit histories.
Although credit standards are still tighter now than they were before the recession, the newest credit card vintages have more lower-quality accounts than do vintages originated in late 2009 and early 2010.
Moody’s also raised a red flag about the entrance of private equity funds, hedge funds, and investment banks into the subprime auto and mortgage businesses.
“A sign that asset credit quality will continue to loosen in the subprime auto and mortgage sectors is the influx of non-traditional private capital into mostly subprime consumer lenders that will tap the securitization market,” Robinson wrote.
For example, Moody’s says that Pimco is considering buying a stake in subprime auto lender CPS, while Blackstone is interested in Exeter Finance and Perella Weinberg has set its sights on CarFinance Capital/Flagship Credit.
In the mortgage market, Fortress purchased subprime lender American General (now, Springleaf) from AIG in late 2010, and Shellpoint Partners acquired New Penn Financial. BlackRock recently announced that it had more than doubled its investment in PennyMac, a mortgage REIT.
“The entrance of players … with higher risk profiles is a sign that competition for asset origination will increase,” Robinson said.
Moody’s also noted that certain risky structural features, such as “prefunding accounts”, or cash reserve funds for the purchase of assets after a transaction’s close, have begun returning to ABS deals for the first time since the onset of the crisis. The risk there is that the assets purchases after the transactions closes may be of lower quality than what investors were expecting.
Additionally, small originators and issuers with low credit quality have been getting back into the game, and their ability to honor representations and warranties may be limited.
Moody’s warning comes during the busiest week of ABS issuance so far this year.
More than US$7.5bn in asset-backed volume across 11 deals is expected to price by Friday. The surge of issuance brings year-to-date volume to more than US$45bn, putting it significantly ahead of 2011 issuance at the same point last year, which was roughly US$30bn. The encouraging level of issuance also puts ABS volume on a trajectory to eclipse last year’s US$125bn full-year total.
At least four deals this week were upsized due to investor demand and oversubscribed.
Moreover, there were very large bid lists and increased trading in the secondary markets, as the buyside started rolling off seasoned paper in order to be able to allocate the money to the swath of deals in the primary. More than US$1.5bn traded in the non-mortgage ABS secondary so far this week, while a typical week usually sees US$500m trading.
Investors have money to put to work, dealers say, and the positive momentum in broader economic activity – both consumer and commercial – may have encouraged issuers to opportunistically tap the market.
On the other hand, the sheer range of asset classes represented this week – auto lease, subprime auto, timeshare receivables, structured settlement, equipment, UK credit card, UK RMBS with US dollar tranches – suggests that the trend may go beyond just opportunistic issuance, and that the ABS market may actually be poised for strong year-over-year growth for the first time since the crisis.
10--More on household deleveraging, pragmatic capitalism
Excerpt: Household debt deleveraging is only at its beginning stages and has a long way to go. It has already placed a lid on consumer spending that is holding down economic growth, and will continue to do so for the next few years. To convey how heavy a burden this debt is on the economy we present the following data.
Household debt has averaged 55% of GDP for the last 60 years and climbed to about 65% by 2000, when it really took off and soared to 99% at the peak in 2008. Since that time it has dropped to 86%. Although this is commendable progress, it has been the main reason why the current recovery has been by far the slowest since the 1930s. Furthermore, in order to get the debt down to even the relatively elevated 65% level of 2000, it would be necessary for debt to decline by about $3.2 trillion. When we consider that this is a whopping 30% of current personal consumer expenditures, the enormity of the task becomes obvious. Now we don’t expect this to happen all at once, and the rise in GDP over coming years will also reduce the ratio. Therefore the drag on spending won’t be as disastrous as the $3.2 trillion implies but will still be a serious impediment to future economic growth.
A similar analysis applies when household debt is measured against consumer disposable income (DPI). The ratio of debt to DPI averaged 76% over 60 years and increased to about 92% by the end of 1999. It climbed to 130% at the pre-crisis peak and has since dropped back to 113%. In order for the ratio to get back only to the year-end 1999 level, debt would have to decline by $2.4 trillion, or 22% of consumer spending.
Is all of this relevant to the real world? You bet it is. Fourth quarter GDP was up only 1.6% over a year earlier, while real consumer expenditures were down 1.4% year-over-year in January 2012. And despite all the talk about an improving economy, it is year-over year consumer expenditure growth that is the leading indicator for production, employment and capital spending.
When we also consider that the EU (in total the largest economy in the world) is probably entering a recession, and that a major bank is saying that China is already in a hard landing, the outlook for the U.S.
11--Regulators turn focus on LTRO exit plan, IFR
Excerpt: European regulators are calling for the eurozone’s banks to come up with an exit strategy for the LTRO, as they warn that the three-year funding will not be rolled over and worry about the growing encumbrance of the banking system balance sheet.
According to two European bankers, the German regulator along with others is now asking banks to either pay back the LTRO funds ahead of schedule, deleverage, consolidate with healthier banks or access wholesale funding through the public markets.
“The regulator’s message is clear – take as much as you want out of the LTRO but you must demonstrate a funding plan and rolling over the LTRO is not an option,” said a banker....
According to Barclays research, the reason why the LTRO was needed in the first place was because of structural vulnerabilities in banks’ wholesale funding models.
“The way in which banks access the ECB – pledging collateral in return for funding – fits into a broader trend of banks encumbering their assets via repo, collateral swaps and covered bonds,” Barclays research said....
“There is definitely a lack of clarity on how much of banks’ balance sheets are encumbered by ABS, senior, covered and derivatives,” he said.
Barclays shared Fitch’s view and explained that bondholders faced increasing subordination from this balance sheet encumbrance, reinforced by depositor preference laws (in some countries) and imminent legislation on bail-in bonds.
“Combining these factors suggests that unsecured funding cost for banks will remain high – potentially too high for some business models to make economic sense,” according to Barclays
12--Europe economy may see slim gain from supersize funding, Reuters
Excerpt: The broader euro zone economy will get only limited benefit from the European Central Bank's latest funding bonanza because banks are hoarding the money rather than lending it on to businesses and consumers, a Reuters poll of traders suggested.
While the cheap long-term cash from the ECB is credited with easing borrowing costs for Italy and Spain and helping avoid a credit crunch, the impact seems so far to have been limited to financial markets.
Data from the euro zone's private sector earlier on Monday showed a sharp downturn among Italian and Spanish businesses dragged the currency bloc back into decline last month.
The data will reinforce expectations that the bloc will wallow in a relatively mild recession until the second half of this year and drag on the global economy, as a Reuters poll predicted last month, while the economies of the weakest debtors such as Greece and Portugal will likely contract for much longer.
With interest rates already at record lows, the ECB looked to more unusual methods of encouraging the flow of funds to boost growth.
No fewer than 800 banks took 530 billion euros ($700 billion) combined in cheap three-year money from the ECB last week, partly as insurance from any worsening of the debt crisis and partly because the offer was too good to pass up.
But most of that money has found its way back to the central bank, with lenders parking more than 820 billion euros at the ECB's overnight deposit facility as of March 2.
This prevents the money from fostering growth in the region, according to a slim majority of traders - 14 of 23 - while nine said the distribution process was longer and it would take time for the funds to stimulate the real economy.
"The money is not flowing into the real economy. It's just used to safeguard the banks' own accounts and not to supply credit to corporates or consumers," said a euro money market trader.
13--Banks eye AIG’s $47 billion in toxic assets held by NY Fed: WSJ, smart business
Excerpt: Several banks including Goldman Sachs have shown an interest in buying American International Group Inc’s. complex and troubled assets tied to the insurer’s bailout, the Wall Street Journal said, citing people familiar with the matter.
The troubled assets, which are held by the Federal Reserve Bank of New York, are valued at about $47 billion at face value, the paper said. These toxic assets were acquired by New York Fed as a part of the AIG bailout at the height of the financial crisis.
Banks including Barclays PLC’s Barclays Capital unit, Credit Suisse Group AG and Goldman Sachs are among the ones interested in buying the complex mortgage-backed assets at around their current market value, the Journal said, quoting people familiar with the matter.
A few interested buyers have approached the New York Fed about the collateralized debt obligations. However, the people told the paper that they do not yet expect any imminent sales.
14--JPM loads up on Euro-paper, euronews
Excerpt: In the context of the ECB loans, bank-to-bank lending rates have dropped by more than a third over the last few months.
In a report released on Friday, J.P. Morgan analysts said prime money funds raised their euro-zone bank holdings in February, adding $30 billion (19 billion pounds) in euro-zone bank debt paper to bring their euro zone debt holdings to $211 billion. They boosted their euro-zone bank paper holdings by $27 billion in January, the first time they added such debt since April 2011.
The funds also bought more unsecured euro-zone securities than repurchase agreements and asset-backed commercial paper in February. The latter two asset classes are considered safer because they are backed by collateral such as U.S. Treasuries. That funds were willing to push into unsecured euro-zone instruments suggested worries about whether banks would have enough cash to service short-term obligations had abated.
What washed away some of those worries is the liquidity the ECB provided in two long-term refinancing operations – the first in December and the second last week. The cash is meant to give the region’s banking system time to raise private capital and to deal with bad peripheral investments.