Why the recent pop will soon likely fade

Discussion in 'Trading' started by ByLoSellHi, Mar 19, 2008.

  1. Great, great article. But hey, I may just be biased and all the empirical data cited is fabricated.

    I mean, I know the permabulls don't think economic fundamentals, such as consumer spending, matter when it comes to earnings and equity market performance.

    Nor do capital inflows or outflows, I guess.

    Nor does the willingness of banks to lend money.


    Treasuries Rise on Speculation Report Will Show Slowing Growth

    By Wes Goodman and Aaron Pan

    March 19 (Bloomberg) --
    Treasuries rose, halting a tumble from yesterday, on speculation a central bank report tomorrow will show manufacturing shrank for a fourth month, a sign that credit-market losses slowed the U.S. economy.

    Two-year notes gained after the biggest loss since 2001 as Joseph Stiglitz, a Nobel-prize winning economist, said the U.S. is facing a financial crisis and interest-rate cuts will do little to help. The Federal Reserve reduced its benchmark rate by 75 basis points to 2.25 percent yesterday, with futures showing 50 percent odds of another half-point move by June.

    ``You're still going to have the flight to quality,'' supporting Treasuries as credit losses spread, said Roger Bridges, who oversees the equivalent of $5.59 billion as head of fixed interest at Tyndall Investment Management Australia Ltd. in Sydney. ``There have been various times when we thought the all clear could have been sounded on the U.S. economy and it hasn't happened.''

    The two-year yield fell 9 basis points to 1.53 percent as of 2:27 p.m. in Tokyo, according to bond broker Cantor Fitzgerald LP. The price of the 2 percent security due February 2010 rose 5/32, or $1.56 per $1,000 face amount, to 100 28/32. Ten-year yields increased 5 basis points to 3.45 percent.

    Treasuries extended gains on speculation that another unspecified hedge fund is in trouble, said Kenny Borowicz, a bond-futures broker at MF Global Singapore Ltd., part of the world's largest broker of exchange-traded futures and options contracts.

    Great Depression

    The two-year yield was 72 basis points less than the Fed's target for overnight bank lending, near the smallest difference since October. The deficit was as much as 1.90 percentage points on Jan. 21, the day before the central bank made an emergency 75 basis point cut in borrowing costs. A basis point is 0.01 percentage point.

    The difference, or spread, between two- and 10-year yields was 1.92 percentage points, widening from 1.88 percentage points yesterday. The increase reflects greater demand for shorter maturities, which are more sensitive to interest-rate changes.

    The Fed has brought its benchmark down 3 percentage points since September as it tries to address a financial market meltdown tied to a housing slowdown and defaulted subprime mortgages.

    ``This is clearly the worst financial problem we've had since the Great Depression,'' Stiglitz told Radio New Zealand today from Auckland, where he's attending a conference. ``That has to have very major ramifications for the American economy and the global economy.''

    TED Spread

    Banks' willingness to lend declined, according to the so- called TED spread, the difference between what lenders and the government pay to borrow for three months. The spread widened to 1.66 percentage points, the most this year.

    Treasuries tumbled yesterday after the Fed cut rates and said measures of inflation are ``elevated.'' Stocks rallied after the Fed's decision and on higher earnings, with the benchmark MSCI Asia Pacific index of regional shares gaining 2.2 percent.

    The gap between yields on 10-year Treasury Inflation- Protected Securities, or TIPS, and similar-maturity conventional notes widened to 2.40 percentage points from 2.27 percentage points before the Fed meeting. The difference reflects the rate of inflation traders expect for the next decade.

    ``We've reduced our holdings,'' said Marc Fovinci, who helps oversee $2.8 billion as a portfolio manager at Ferguson Wellman Capital Management Inc. in Portland, Oregon. ``With all the Fed has done to keep the financial markets on an even keel, the economy shouldn't go into a tailspin.''

    Cheap Levels

    The Fed Bank of Philadelphia's manufacturing index may be minus 18 for March, versus minus 24 in February, according to the median forecast in a Bloomberg News survey of economists before the report. Readings less than zero signal contraction.

    Futures on the Chicago Board of Trade indicate a 50 percent chance the central bank will cut its rate by another half point to 1.75 percent by its June meeting. The odds of a quarter-point cut in April were 38 percent.

    ``Some market participants view these levels as cheap, with the Fed still in play to move rates lower in the future,'' said Borowicz at MF Global.
  2. Not sure how media headlines are a good predictor of short or medium term price action. They're worthless.
  3. mokwit


    In the same vein, cororates drawing on credit lines before they are pulled.

    It aint over yet.


    Large corporates are high value clients as they generate fee income eg from FX, to the point where banks will lend at a loss to get the fee biz, SO if important customers draw on their credit lines banks will call in their loans to less important customers such as smaller corporates, bankrupting them in many cases (seen this for real) and causing layoffs'

    Also Banks wil have to raise capital (read: dilution) and sell off equity holdings (read: more supply coming into market).

    Porsche, Sprint Unsettle Banks With Rush for Credit (Update3)

    By Pierre Paulden and Shannon D. Harrington

    March 18 (Bloomberg) -- Citigroup Inc., JPMorgan Chase & Co. and the rest of the banking industry face a new drain on their capital.

    Borrowers from Sprint Nextel Corp. to Porsche Automobil Holding SE to MGIC Investment Corp. are drawing on credit lines. JPMorgan analysts say it's the start of a trend that may force banks to raise as much as $40 billion to keep an adequate cushion against potential losses.

    Companies are scrambling for cash at one of the worst times for the financial services industry. The world's biggest firms have taken $195 billion in writedowns and losses on securities tied to subprime mortgages, and the 10 biggest U.S. banks have the lowest capital levels in at least 17 years, according to Credit Suisse Group. The tapping of credit lines may be enough to grind new lending to a halt, said David Goldman, a senior portfolio strategist at London-based hedge fund Asteri Capital.

    ``The capital of the financial system has imploded,'' Goldman, a former head of debt research at Bank of America Corp., said in an interview on Bloomberg Radio in New York last week. ``They have commitments to make loans, which they are being called out on, and their capital is bleeding to death.''

    Bear Stearns Cos. was forced to sell itself to JPMorgan for $240 million, 90 percent less than its value last week, after the firm was crippled by clients pulling money and lenders reining in credit.

    Tier 1 Slide

    Banks had more than $1.4 trillion in untapped loan commitments as of September, the most since data became available in 1989, according to the Shared National Credit survey by four U.S. regulators including the Federal Reserve and Office of the Comptroller of the Currency.

    New York-based Citigroup had $471 billion at yearend, more than any other U.S. bank, according to regulatory filings. Charlotte, North Carolina-based Bank of America disclosed $406 billion of undrawn loan agreements and New York-based JPMorgan had $251 billion. Merrill Lynch & Co. had $59.3 billion.

    The banks' Tier 1 capital, which includes common stock, retained earnings and perpetual stock, shows why any further drain may ``severely'' limit new lending, said Credit Suisse analysts led by Ira Jersey.

    The median Tier 1 level at the 10 biggest U.S. banks fell to 7.3 percent of risk-weighted assets at the end of 2007, from 8.7 percent a year earlier, according to the analysts. The ratio hasn't been as low since the Zurich-based bank began tracking in 1990. The minimum for a ``well-capitalized'' rating from regulators is 6 percent. The assets are calculated by weighing each type relative to its chance of default.

    New Capital

    To compensate for the declines, banks have raised at least $50 billion in new capital from investors such as the Government of Singapore Investment Corp. and Abu Dhabi Investment Authority to bolster their balance sheets, data compiled by Bloomberg show.

    Spokespeople for Citigroup, JPMorgan, Bank of America and Merrill Lynch declined to comment.

    The Federal Reserve cut its main lending rate by three quarters of a percentage point to 2.25 percent today to tackle tightening of credit. The Fed has cut the benchmark lending rate by 2 percentage points this year.

    ``The Fed's recent action will give enough liquidity where it's needed,'' Jersey said in an interview today, noting this doesn't solve the core of the problem: ``The banking system needs more capital.''

    `Vicious Cycle'

    The added demand from borrowers comes as banks rein in lending to everyone from hedge funds to homeowners in an attempt to preserve capital. A mortgage fund run by David Rubenstein's Carlyle Group collapsed after creditors withdrew financing and Peloton Partners LLP liquidated a fund after demands from banks to repay loans. Leveraged buyouts have slowed to a trickle.

    Borrowers will be more inclined to tap credit lines as banks tighten their lending standards, according to Kevin Murphy, a money manager who oversees investment-grade and emerging-market bonds at Boston-based Putnam Investments, which has $65 billion in fixed-income assets.

    ``It's a vicious cycle,'' he said. ``The more that they tighten the lending standards, the more there will be certain stresses in the financial market. Any sort of unfunded commitments they've put out are likely to be called on.''

    Sprint Costs

    Overland Park, Kansas-based Sprint, the wireless carrier formed by the merger of Sprint Corp. and Nextel Communications Inc. in 2005, is accessing a line to get money while it can. Stuttgart, Germany-based Porsche, the maker of the 911 sports car, is seeking to take advantage of relatively cheap rates.

    Sprint, which lost $29.5 billion last quarter, borrowed $2.5 billion in February from a $6 billion credit line arranged by JPMorgan and Citigroup, according to a regulatory filing. Sprint has $1.25 billion in bonds due in November and $400 million of commercial paper.

    ``There is uncertainty in the markets, and drawing down on the credit lines takes that concern off the table,'' James Fisher, a spokesman for Sprint, said in a telephone interview.

    The loan, originated in 2005, costs Sprint 0.75 percentage point more than the three-month London interbank offered rate, Fisher said. If the company were to obtain a new loan now, it would pay as much as 5.75 percentage points more than Libor, based on loans obtained by companies with similar ratings, according to Eric Tutterow, senior director at Fitch Ratings in Chicago. Libor is 2.58 percentage points.


    Mortgage insurer MGIC used its $300 million bank line in August to repay $177 million of commercial paper, according to a regulatory filing last month. Milwaukee-based MGIC had a $1.47 billion loss last quarter, its biggest ever, as claims soared amid record U.S. home foreclosures.

    Porsche said in Feb. 20 it used a 10-billion euro ($15.7 billion) credit line to reinvest the money in securities to boost returns. Porsche spokesman Frank Gaube didn't return calls seeking comment.

    New York-based CIT Group Inc., the commercial finance company that had a $123.2 million loss in the fourth quarter, may be next to borrow as credit investors lose confidence in the company, Bank of America analysts said. CIT spokeswoman Mary Flynn declined to comment beyond the company's filings.

    Standard & Poor's yesterday cut CIT's credit rating to A- from A and said the outlook on the company's rating is negative.

    CIT's bonds and credit-default swaps, financial instruments investors use to speculate on the company's ability to repay its debt, are trading at distressed levels. The shares, which fell 74 percent in the past year, climbed $2.26, or 20 percent, to $13.29 in New York Stock Exchange trading today.


    Minneapolis-based Residential Capital LLC, the mortgage lender that has $1.75 billion in credit lines it can tap, may struggle to refinance $4.4 billion in debt this year after losing $4.3 billion in 2007, according to Kathleen Shanley, an analyst at bond research Gimme Credit LLC analyst in Chicago.

    ``If they are short of capital at some point, banks may stop offering credit to borrowers that would normally qualify for a loan,'' said Anil Kashyap, a professor at the University of Chicago Graduate School of Business, and a former economist for the Federal Reserve. ``That's the definition of a credit crunch.''

    To contact the reporters on this story: Pierre Paulden in New York at ppaulden@bloomberg.net; Shannon D. Harrington in New York at sharrington6@bloomberg.net

    Last Updated: March 18, 2008 16:42 EDT