Everyone should read this. A real clear case for what I have been saying about the credit bubble. And I am laughing my ass off at Cramer for telling people to buy Financials. Even recommending MER and American Express (Still recommending them as of 2 days ago). The man has gone off the deep end IMHO. Oh well, as we all know: "Don't Fight the Fed!". Below are the key snips.
prudentbear.com
This afternoon the Federal Reserve reported that total bank credit expanded by $27 billion last week. Commercial and Industrial loans were unchanged, while "Other Security Holdings" jumped $11 billion, and "Security Loans" jumped $11 billion as well. This is not indicative of a sound financial system. What's more, broad money supply (M3) surged $66 billion last week, led by a $13 billion increase in retail money market funds and a $30 billion jump in institutional money fund assets. Not unrelated, the consumer borrowing boom runs unabated with this afternoon's report of a stronger than expected $13.5 billion jump in consumer borrowings during February (10.5% growth rate). Revolving debt expanded by more than $11 billion, the largest increase since September 1995. Further evidence of the signficant surge in first-quarter consumer borrowing and security issuance came yesterday from DowJones: "It was an impressive quarter by any yardstick. The asset-securitization market has just completed a record-setting quarter for new issuance… According to market statistician Thomson Financial Services Data, Newark, ABS issuance aggregated a whopping $89.5 billion in the January-to-March quarter, up from $61.9 billion in the comparable year-ago quarter."
Yesterday from MarketNewsInternational: "After soaring to new records in the wake of the 1996 bankruptcy bill, credit card losses had retreated, despite remaining at still-high levels. Today, losses are beginning to rise again, hitting 5.8% in February 2001, based on Standard & Poor's data, up from a low of 5.1% in September 2000. In 2001, the economy is slowing, and the unemployment rate is edging higher. A new bankruptcy bill is likely to raise personal bankruptcies in the short run, as individuals try to file before the new act takes effect six months after it is signed. The result will be a sharp rise in credit card portfolio losses, to 6.1% from last year's average of 5.5%."
The acutely fragile U.S. financial system suffered a major blow this afternoon with the bankruptcy filing of Pacific Gas and Electric, the largest ever utility bankruptcy. PG&E has liabilities of $18 billion, with losses mounting at a rate of $300 million each month. Several leading banks, Wall Street firms and numerous power generators have significant exposure to PG&E (as well as Edison International and various energy generators). Even more troublesome, the company has borrowed aggressively from money market funds, and this bankruptcy will certainly reverberate throughout the industry. This is now very much a systemic financial crisis. The utilities and others involved in this quagmire have numerous and long tentacles, and there is certainly the possibility of considerable disruption in energy and credit derivatives, as well as within "structured finance" generally. Today's filing follows the recent $12 billion bankruptcy of Asia Pulp and Paper, also with negative ramifications for the asset-backed and swaps marketplace where it had become a significant player. Numerous other international issues, including crisis in Turkey and Argentina, are also factors in this arena. Throw in the recognition of "off-balance sheet" losses by American Express and increasing liquidity concerns for the likes of industry heavyweights Lucent and Motorola, and it becomes clear that there has been a significant escalation in the unfolding U.S./global financial crisis.
Bloomberg quoted an energy law attorney: "This is taking the crisis in California thermonuclear. This throws all the assets into a pot and everyone who is owed money has to scramble." This news also comes as the state of California prepares to issue up to $14 billion of energy bonds to finance this unfolding debacle. The California energy crisis is now a rapidly spreading and highly contagious cancer. Especially with this morning's weaker than expected employment data, we will go into next week anticipating action by the Fed.
With stock prices sinking, a spectacular collapse in technology shares, a faltering U.S. manufacturing sector, and heightened financial stress, policymakers and the economic community almost universally believe the cure can be found through the Federal Reserve's creation of additional money supply and liquidity (to maintain/raise general prices levels). I have even read criticism of my analysis (as I highlight continued credit excess) for "completely disregarding deflationary forces." I am certainly not ignoring what is an unavoidable technology collapse after years of truly unprecedented credit, speculative and spending excess. I do, however, see this dilemma (consistent with Hayek) as more the consequence of previous monetary inflation and maladjustments, and clearly not due to any semblance of monetary deflation. Further, the current explosion in mortgage debt and GSE balance sheets is consistent with the failed policy of the Greenspan Fed in accommodating excessive monetary expansion, especially in the context of its present policy goal of lessening the fallout from the technology/NASDAQ bust. Tacit Fed support for continued reckless mortgage lending and financial sector leveraging is simply one more in a string of blatant financial excesses accommodated in this (painful to watch) historic episode of unrelenting monetary mismanagement. No doubt about it, this is but one more example of the Fed "Putting a Coin In The Fuse Box" that is today only creating the clear and present danger of fostering a process that could end in financial collapse ("Burning Down The House").
Some may argue that total credit growth is not today "out of line." I would respond by encouraging forward analysis to focus on individual sector borrowings, while today noting that unprecedented mortgage credit excess in the face of a deteriorating financial and economic backdrop is one massive financial and economic distortion that follows a recurring string of ever-greater bubble distortions. Auto sales data is another excellent case in point. Total ("aggregate") sales for March came in at a stronger than expected 17 million units, just 4% below last year's record sales rate. The "Big 3," however, saw sales drop almost 9%, with Ford sales sinking 13%, Chrysler 10%, and GM 5%. It was a much different story for the foreign nameplates. Toyota had its best month of sales ever, jumping more than 11% over last year's strong sales. This performance helped Asian manufactures pick up more than 3 points of market share, to 29%. Toyota's Lexus unit had a record March, with sales up 24% y-o-y. If this is "recession," it sure is a strange one. BMW enjoyed a record first quarter (+9%), with March sales up 5%. Mercedes-Benz sales were 3% above last year, and Acura had its best month ever, with sales surging 32% above last year.
Moreover, if these processes stimulate over-consumption at the expense of sound investment, there will be "capital consumption," with corresponding long-term detrimental effects to the standard of living of its citizens. In my view, only massive (unsustainable) imports and concomitant speculative "Hot Money" inflows mask the fact that as a country we have been consuming capital/"burning the furniture to warm the house." And while many discuss concepts of over-investment in describing the U.S. technology boom, I would argue that what most describe as "investment" could be more accurately recognized as massive monetary flows into the tech sector that all too often made their way directly to incredible income and capital gains for a relatively limited number of individuals. It was much more about over-spending and wealth transfer than true business investment. I think if an inventory was made of what actually remains of the many hundreds of billions that flowed into the tech bubble the findings would be frightening.
Going forward, there will be no free lunch through the creation of additional debt obligations.
Right here I think we can isolate the greatest weakness of the U.S. economic thinking: Apparently, the nature of spending or the quality of new debt is largely irrelevant – all that is important is the expansion of aggregate demand/GDP and the continued liquidity of financial markets. Success today is measured by the willingness of American households to continue their borrowing and spending binge, as well as declining U.S. market interest rates to sustain systemic liquidity. The fact that the U.S. bubble economy is being preserved in part by an unsustainable extraction of equity from an historic real estate bubble is viewed, incredibly, as good news – "it's keeping the economy out of recession"
The fact that American consumers are borrowing aggressively to fund the consumption of imported products is apparently not worrisome. And since the ballooning current account deficit has not yet turned problematic, there persists this dangerous notion that foreign sources will finance our boom in perpetuity. Such irrational analysis holds (with the dollar maintaining for now global purchasing power) and the massive accumulation of foreign liabilities remain, amazingly, a non-issue. Likewise, the fact that the State of California is now borrowing more than $1 billion monthly to fund electricity losses is apparently viewed as a convenient offset to telecommunications companies that have lost access to borrowings. What is the true quality of the assets backing the recent explosion of broad money supply? Yet, as long as the credit system continues to create new debt in the aggregate sufficient to sustain aggregate spending, all is apparently well and "analysis" need go no further.
...the momentous dilemma to be appreciated today is that monetary inflation has created intractable economic and financial distortions and that continued monetary inflation depends specifically on the capacity of the U.S. financial sector to continue leveraging, as well as the uninterrupted continuation of massive foreign (investment and enormous speculative "hot money") inflows. Unfortunately, this brings us right back to the issue of acute financial fragility. To keep this bubble economy levitated requires massive continued monetary inflation (as we have been witnessing) in an unmistakable historic Credit Bubble. Though continued mortgage and consumer credit excess only assures greater consumer sector distress and financial sector impairment come the inevitable piercing of this unsustainable bubble. And come the faltering of the consumer bubble, it is quite likely that a sinking dollar will not provide the Fed the luxury of an easy "reliquefication"/recapitalization for the U.S. financial sector. This will prove a disappointment for U.S. financial institutions, as well as the leveraged speculating community.
Not only is U.S. wage inflation quietly stimulating demand, it is a key factor in general faltering U.S. corporate profitability and increasingly bearing on the ability of U.S. companies to compete effectively. Continued U.S. inflation will not only augment the loss of global competitiveness and hurt the bottom line, this process will also exacerbate another major economic distortion: the massive U.S. trade imbalance. We just can't shake the notion that inflationary forces have set in motion a confluence of processes that will manifest into a major adjustment in the valuation of the dollar.
Confidence can be a very fragile and fleeting thing. It is now certainly not outrageous to consider the possibility and momentous ramifications of a systemic loss of liquidity in the $2 trillion money market fund complex. The potential for a run on fund assets should certainly not be discounted out of hand, and it is definitely time to carefully scrutinize money fund holdings. We don't think it is a stretch to say "as goes confidence in U.S. 'structured finance', so goes the dollar." This has a very ominous "look and feel," and we strongly encourage everyone to consider taking aggressive measures to reduce risk and protect assets. |
