Those stabilizing speculators …
Credit — according to one widely quoted Deutsche bank report — is on sale. All of it. Corporate bonds can be bought now for a lot less than a few months ago (see McCulley and Toloui’s figure 4).
Treasuries didn’t have the best of weeks last week. But Treasuries and other safe assets with little credit risk (so long as the US government stands behind the Agencies if push comes to shove) are not on sale. Treasury yields — at least for maturities out to ten years — are consistently lower than (headline) inflation.
So are sovereign investors — you know, the ones with long time horizons that enable them to buy the assets that leveraged private players have to cough up in times of stress — snapping up "credit"? Or are they piling into safe assets?
We of course don’t really know, as the available data is full of holes and comes out with significant lags. But take a look at a graph (prepared in large part by the CFR’s Arpana Pandey) showing the 12m increase in central bank holdings of the safest dollar assets — short-term deposits, short-term T-bills and short-term Agencies.
It sure seems like central banks started to increase their holdings of low-yielding safe short-term US assets just after the "subprime" crisis broke in August.
That may be smart. But it also isn’t exactly helping the credit market recover. Central banks — who are still piling up reserves — are a big potential source of "liquidity" to the credit market, not just a source of funding for the sovereign funds who supplied the banks with a bit of additional risk capital earlier this year.
If you look closely at the details of the US data, it turns out that the rise in a rise in holdings of short-term securities other than Treasury securities (think Agencies) accounts for most of the recent increase in central bank holdings. The line item that corresponds with short-term Agencies (along with negotiable CDs) accounts for $76b of the $102b total increase in central banks short-term holdings since the end of June.
And judging from the $20b increase in the Fed’s custodial holdings of Agencies last week (and the strong rise in custodial holdings of both Agencies and Treasuries in January), central banks are still snapping up a lot of Agencies (though we don’t know whether they are buying short-term or long-term Agencies).
The "effective nationalization" of US housing credit that BNP Paribas’ Richard Iley identified earlier this year and John Cassidy highlighted in Portfolio goes even deeper. It isn’t just that the Federal Home Loan Banks are supplying credit to a host of US financial institutions. Or even that the Agencies increased both their debt issuance and their purchases of mortgages late last year. Or that there are calls for a Federal Homeowner Preservation Corporation to take dud mortgages out of private hands. It is also that the Agencies are raising a lot of the money that they effectively lend to US households from central banks. It is de facto nationalization on a global scale, with foreign central banks serving as the ultimate creditors and the US government and various US government agencies and government-sponsored-enterprises serving as an intermediary between central banks looking for safe assets and the credit risk associated with the US mortgage market.
Perhaps central banks - not just state banks — may have dabbled a bit in the credit market over the past two years. If so, they likely got burned, and perhaps some also lost trust in the private financial intermediaries selling repackaged credit. Right now they certainly don’t seem to want housing credit risk.
I am working off the thinnest of evidence. But a part of me still wonders if central banks have been far more willing to continue to diversify into equities than to diversify into credit risk — and thus have provided more support to the equity market than to the credit market.
The SWF investment in big banks and broker dealers is just the most visible example.
That said, I can quite fairly be accused of seeing a central bank behind every corner — or least every unusual development in the markets. And I could easily be overstating the impact of central banks on the market. After all, central bank demand for the Agencies own issuance hasn’t kept Agency MBS spreads from widening significantly. My sense though is that most central banks have shied away from agency MBS, with one — admittedly larger exception: China.
Yet with central banks once again adding over $300b to their reserves in q4 (a $1.2 trillion annual pace) and the big oil funds probably adding another $50b in q4 alone, there is at least some reason to think that central banks and sovereign funds investment decisions are a factor shaping a host of market outcomes.
p.s. I would be interested to know if short-term Agency spreads have widened along with Agency MBS spreads.
Update: with a bit of help from the bond market experts over at Across the Curve, I have found out that the spread on 2 year Fannie Mae paper has widen recently, tho not as much as the spread on Agency MBS. But the widening has occurred very recently, so there isn’t any TIC data to match it too. And the very short-term Agencies I mentioned above are benchmarked against Libor. They now trade inside LIBOR, but that probably says more about the banks than the Agencies.
Nationalization is the wrong word, Brad.
*Socialization of risk* is the term. In other words, the taxpayers are being used to bail out all of the greatest malefactors of the mortgage crisis with no selectivity. Much better to have vouched for the mortgages of owner-occupied dwellings where there is no indication of fraud in the mortgage.
You’re not paranoid. Central banks are doing this.
I’m not sure what short-term Agency spreads have done, but they have probably only tightened given both the flows into money market and the flows from other parts of the money mkt world (i.e. out of Auction Rate Securities, ABCP, VRDNs, etc.) In fact, (excluding Tbills) it’s probably the last crisis-free “corner” of the liquidity world.
Anonymous ibid. on 2008-02-24 20:51:38
Much better to have vouched for the mortgages of owner-occupied dwellings where there is no indication of fraud in the mortgage
Wonder what you would have made of the situation where apparently the banks are being whacked in favour of deadbeat homeowners (Bloomberg’s terms, not mine); apparently, the small consumer has hit back at the banks in the most curious of ways, take a look at bloomberg’s exclusive section.
Thanks for the colour on s-term Agencies. Spreads still could have widened b/c of all the demand for t-bills, but my sense from afar is that this remains a calm corner of the market.
A bit off-topic, but on the general subject of central bank intervention — do any readers have a good sense of the extent of central bank intervention in the forward market especially in Asia. I was looking at the IMF data on Singapore and was surprised to see that the Monetary Authority of Singapore has a bigger forward book than the Bank of Thailand.
Great post.
Thank you for your work.
What ever happened to laizze-faire Neo-liberalism. - DC
Bank of America Asks Congress for a $739 Billion Bank Bailout
http://www.nytimes.com/2008/02/23/business/23housing.html?_r=2&ref=business&pagewanted=all&oref=slogin
Over the last two decades, few industries have lobbied more ferociously or effectively than banks to get the government out of its business and to obtain freer rein for “financial innovation.”
But as losses from bad mortgages and mortgage-backed securities climb past $200 billion, talk among banking executives for an epic government rescue plan is suddenly coming into fashion.
A confidential proposal that Bank of America circulated to members of Congress this month provides a stunning glimpse of how quickly the industry has reversed its laissez-faire disdain for second-guessing by the government — now that it is in trouble.
The taxpayers would be stuck with hundreds of billions of dollars in defaulted loans.
9 trillion plus in debt
tens of trillions more in unfunded liabilities
guess what is another trillion when you are going under, right?
You will see the bond market put a stop to this sh*t very soon, otherwise rates in this country will moonshoot (they have been rising for the last three weeks)
Western Economists like to believe that when there is demand, it will automatically result in growing supply. However, the world is reaching the limits of natural resource extraction. For instance, global Gold and Platinum production is falling off a cliff despite higher metals prices. A 100 ton deficit in Gold production is predicted for 2008. And China Baosteel last week agreed to a 60% price increase for iron ore from Australia. With only just an US recession, any extra oil supply on the world market will rapidly be consumed by China. There are 3 billion people in the developing world moving towards middle class living standards. An US economic depression will be required to significantly reduce global consumption of strategic commodities.
DC: What ever happened to laizze-faire Neo-liberalism.
You didn’t seriously that most people who spout economic ideologies ideas actually would continue to believe them when it was no longer in their personal self-interest to do so, did you?
People do sometimes continue to believe in religions and nationalisms when it goes against self-interest, but when people figure out that they aren’t getting anything from an economic ideology, they turn against it.
For the Fannie Mae MBS yield spread and the Fannie Mae MBS vs 10-year Treasury, see
http://www.prudentbear.com/index.php/MBSSpike
DC: there is no such thing as a “deficit in gold production.” The concept is economically preposterous. It may not be your invention, but must you propagate it?
At most, a commodity can experience a stockpile drain or build as the result of natural or artificial pricing forces. But since gold is seldom lost or destroyed, and since the global stockpile is about 150,000 tons with 2000 or so extracted every year - in other words, since gold is predominantly a monetary commodity, not an industrial one - the concept is exceptionally meaningless.
Because of this high stockpile-to-production ratio, if gold extraction fell to zero, there is no reason to think the gold market would react in any especially violent way. Except of course for the psychological factors, always considerable in this intrinsically unstable coordination game.
It is true, for example, that the ol’ yellow dog knows fear when he smells it. The best thing is not to fear at all. If you can’t manage this, at least try a heavier cologne. And whatever you do, don’t run.
“deficit in gold production”
Combined Jewelry demand, investment demand, and industrial demand exceeds current gold production by 100 tons. The deficit in the past years was covered by US and European Central Bank leasing of Gold reserves to investment banks. There is real industrial demand for gold in the electronics industry especially for electrical connectors. Your computer’s microprocessor also contains a tiny bit of gold within the microwires connecting the semiconductor chip to the external data contacts.
“central banks and sovereign funds investment decisions ['are a factor'] shaping a host of market outcomes”
I agree
thanks for the prudent bear link –
i actually had already found that, and was interested if something similar could be observed with the bonds Fannie issues as opposes to just guaranteeing. i think i found the answer — see the update.
DC, if your number is accurate (which it isn’t), the world is due to run out of gold in a shocking 1500 years! Clearly, it’s time to dust off those plans for melting down King Tut’s coffin, or we’ll have to start making electrical connectors out of wood chips and pigeon dung.
when capital gains become elusive, and personal austerity fashionable again - secure income may be the touchstone for investment once more.
‘peak gold’ may be a good theory or a pathetic illusion, but when the smart money exits gold, the slow suckers are still piling in for the ski jump. it’s the smart money that stabilises the market. the suckers buy at the top, and lose heart at the bottom - thus exaggerating the volatility. the smart money is kiss and tell money, always persuading you to follow where they have already gone . . .
.
gillies,
There’s only one small problem in your logic, which is that you assume the smart money has to exit.
It’s not for nothing that the IMF prohibits members from linking their currencies to gold. Imagine if there was a country, just one, on gold. Call it Goldenstein. Suppose you work at a Western financial house - American, European, Japanese, etc - and you’re trying to persuade Goldensteiners to move their savings into dollars, euros, yen, or instruments valued in same.
How exactly do you pitch that? If it helps, try to imagine it in Powerpoint. Now imagine pitching the reverse, and you’ll see the problem.
Of course, there is no Goldenstein. But does there need to be?
Judy Yeo asks, “Wonder what you would have made of the situation where apparently the banks are being whacked in favour of deadbeat homeowners…”
I’m opposed to helping undeserving people, whether individual homeowners or banks. But not, however, at the price of destroying our economic system.
Goldenstein had better watch out for an orange revolution against its authoritarian, election-result-falsifying regime. And if it’s too big and important to have to worry about that, it doesn’t need gold either.
there are limits to gold production just like oil steel etc. They are limits to standards of living. Look http://en.wikipedia.org/wiki/Ecological_footprint
. Look at the graph and you can see US citizens are among the most polluting humans on earth. Europe and Japan do way better with similar revenues.
So just from a moral point of view Americans need to change their way of life, because they can not universalize it (which is the standard Kantian rule for judging if something is moral or not), basically they are stealing precious ressources and destroying public goods (like a stable climate) for other humans.
Now the “good” thing, is that we re heading into the worst ever world economic depression, reason being : we ve allowed too much debt piles over the last 30 years and we are now just like at the end of the 20’s in need of erasing them.
The coming world depression will drastically reduce the needs for oil, gold, steel etc. There will be no shortage of those materials until demands picks up to present levels… Probably not before another 10 years at least.
Smekhovo, you sound like some kind of authoritarian dictator. One of those Serbian fascists, perhaps? I’ve got news for you, buster - Cyrillic is over. When we’re done with you, your children will be writing in nothing but the purest ASCII. We won’t even leave you any weird squiggly marks. Also, there will be no reading matter except for the New York Times, and all radio stations will play NPR Morning Edition, all day long. Other than that, we love you. Won’t you please be our loyal puppy-bear?
No, seriously, all I meant is that Goldenstein (that’s “gold-n-SHTEEN,” of course) need not be a country in the normal sense of the word, with a flag and a UN seat and all. It could be an evil breakaway bandit province controlled by evil, Cyrillic-typing mafia dons. Or it could be nowhere at all. The fundamental question is economic - it is quite orthogonal to political structures.
This is not to say political structures have, or can have, no effect on it. But the converse is also the case. For example, it will be very interesting to see if Treasury can get its new IMF gold sales plan past Harry Reid (D-Nevada). If it couldn’t spin HIPC debt forgiveness, how the heck is it planning to spin paying IMF salaries - especially since IMF has turned into, as bsetser I think put it, the “Turkish Monetary Fund?”
The problem for IMF is that if the story doesn’t work, they look weak, and if it does work, the market can infer that it must have been something good. It is also quite significant that IMF plans - at least according to unidentified sources, who as we all know are always right - to sell within the CBGA.
As Leonard Cohen put it, everybody knows the dice were loaded, everybody knows the good guys lost, and everybody knows the CBGA is an obligation rather than a restriction. If Treasury wants IMF to sell within the CBGA, it can only mean the Euros are balking and want some of the strain taken off their backs. Selling is selling and the effect, if it happens, will surely be salutary. But the message matters, too. The situation is hardly checkmate or anything close, but a type of zugzwang definitely seems to be developing.