Silicon Investor (SI) -- The First Internet Community

STOCKTALK

We've detected that you're using an ad content blocking browser plug-in or feature. Ads provide a critical source of revenue to the continued operation of Silicon Investor. We ask that you disable ad blocking while on Silicon Investor in the best interests of our community. If you are not using an ad blocker but are still receiving this message, make sure your browser's tracking protection is set to the 'standard' level.

Strategies & Market Trends : Booms, Busts, and Recoveries -- Ignore unavailable to you. Want to Upgrade?

To: sciAticA errAticA who wrote (33041)	5/5/2003 9:22:08 AM
From: sciAticA errAticA	Read Replies (1) \| Respond to of 74559

Global: The Day of Reckoning? Rebecca McCaughrin (New York) Morgan Stanley May 05, 2003 One month doesn’t make a trend. But three consecutive months of declining foreign demand for US securities raise questions about the sustainability of external financing. According to the US Treasury’s most recent release on long-term cross-border securities transactions, foreign interest in US securities appears to be buckling. Net foreign purchases of US securities plunged to $21.8 billion in February, roughly half the level in January and the lowest level seen since the emergence of a string of corporate accounting scandals early last year. While the portfolio flow data tend to be volatile, we have yet to witness such a profound month-to-month swing that has not been accompanied by some other extraordinary shock, akin to the September 11 attacks or the Enron fiasco. We find it difficult to chalk up the dip exclusively to Iraq-related jitters. If so, we would have expected to witness a pullback from US assets across the board. That was not the case. Instead, foreigners dumped the safest assets and reallocated funds into relatively more risky equities while sustaining a healthy level of investment in corporate bonds -- not exactly the type of strategy employed by jittery investors. Moreover, in hindsight, the Iraq war was well telegraphed and priced into markets -- not the type of shock that tends to trigger portfolio shifts like the one seen in February. No, we believe there are more fundamental issues at stake, causing investors to question the relative attractiveness of US assets. The search for yield, three years of falling equity markets, ongoing signs of weakness in the economy, and the return of the twin deficits collectively make the US vulnerable to a deterioration in foreign inflows. More Benign Global Environment to Limit Repatriation Moreover, US repatriation is unlikely to offer much relief this year. Last year, in response to flaring geopolitical tensions and a dearth of overseas investment options, US investors repatriated $26 billion in overseas securities holdings. This in turn helped to offset the decline in gross portfolio and FDI inflows and mute pressure on the dollar. So far this year, US investors have not engaged in a significant amount of repatriation. While that could change before yearend, US residents are unlikely to significantly increase the level of capital brought home, given the relatively more benign global economic environment. Moreover, foreign investors are much larger holders of US securities than their US investors are of overseas securities. US investors hold roughly $2.1 trillion of overseas securities, compared to $3.2 trillion of US holdings by foreigners. So in the extreme scenario, US repatriation would not be able to match a pullback by foreigners. Foreign Official Institutions Adjust Reserve Composition Other more recent data point to a similar saturation of demand for US assets. In the six weeks running up to the war, central banks aggressively stepped up their purchases of US government securities, accumulating an average of $7.3 billion of securities per week compared with under $2 billion per week during the prior six weeks. However, as geopolitical tensions eased, the allure of shifting into safe-haven securities appears to have diminished. The Fed’s custody holdings of agencies and Treasuries on behalf of foreign official institutions has shown a pronounced slackening in demand over the last three weeks, with institutions decreasing their holdings by $11.5 billion. Given that foreign official institutions account for over 50% of foreign-held US Treasuries, the recent pullback is likely to take a toll on total foreign flows into US Treasuries. The Compression in FDI Is Continuing Meanwhile, the outlook for FDI remains mixed. Based on our M&A data (a good proxy for FDI in industrialized countries), US FDI inflows were running at a healthy clip during Q1, thanks to HSBC's $15 billion acquisition of Household International. However, announcements -- a key determinant of future flows -- tell a different story. Through April, foreign firms have been far less acquisitive relative to their US counterparts, with the US posting net outflows of $10 billion since the start of 2003. Last year, the US was a net source of nearly $100 billion of FDI, which proved to be a huge net drag on external financing. At the current rate of announcements, the US is again on track to post sizeable net outflows this year, thus shifting the entire financing burden to portfolio investment. Bottom Line The risk that foreigners are souring on US assets is becoming a more acute concern. While we do not believe that February will set the pace for the remainder of the year, we are dubious that foreigners will step up their investment to the $50 billion per month needed to finance this year’s yawning deficit. The end of the Iraq war has only increased the likelihood of a deterioration in safe-haven-related flows, while the compression in FDI has yet to abate. morganstanley.com