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While the flow of bad economic news continues unabated, this last week has given some respite, probably only brief, but welcome. Oil and most other commodities have fallen from their peaks, giving hope (but only hope, not certainty) that the commodities bubble has now begun deflating. Stock markets have risen from their lows thanks to the restrictions on short-selling and a sense of relief over the GSEs. Spreads on both emerging markets and low-credit bonds have ceased widening. US exports are doing well, as are German. |
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Is the crisis all over? Readers would indeed be shocked if we said it were! It is rather a case that the bad news is so persistent that it is discounted, and many investors prefer to chase the few rays of sunshine which appear as above. In the meantime: |
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- Wachovia announces a USD 9 billion loss
- the monoline insurer, FSA, is following MBIA and Ambia in being downgraded (with a very negative impact on the shares of parent company, Dexia)
- HBOS in the UK has raised the extra equity capital it sought, but largely at the expense of the underwriters
- History shows that stock market rallies based on rules against short selling are short lived (so short-lived in the recent case of Karachi that investors trashed the stock exchange!)
- The GSE saga has much further to run – the current government bail-out can only be palliative
- Mortgage rates in the USA are rising, reinforcing the housing decline (curiously, mortgage rates in the UK are a little off their peaks of a month ago. Maybe the UK is entering recession faster than the USA)
- Amex, like HSBC some months earlier, are reporting an increase in late payments of their charge card and in their reserves for bad debts (almost doubling from USD 1 billion of a year ago), in a warning that credit-card debt defaults are building despite being less publicised than bank losses
- Tax rebates have run their course along with the boost to household spending
- Municipal bonds in the USA, bereft of the support of the monolines, are now being peddled in Europe (it can only be a good thing for investors at last to look at the underlying strength and weaknesses of municipal borrowers!)
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Even the drop in commodity prices is itself a reflection of lower demand and of expected demand both in developed countries and in China. We would guess that the Chinese economy will continue expanding headlong until the Olympics are over, but that then reality will catch up: the export demand for manufactured goods is falling and domestic consumption will not be taking its place any time soon. |
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The view that we have developed over recent weeks is that recession in the USA will spread and will suffice to dampen the current inflation. This week’s great volatility in commodity prices suggests that this process is underway. Both Trichet and Bernanke might well raise rates once or twice, but that should suffice. They may even be able to desist entirely. |
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Much has been said about Fanny Mae and Freddie Mac carrying so much leverage (see last week’s Weekly). For years they have taken advantage of the implicit government guaranty to borrow cheap and lend dear, i.e. an interest rate carry trade. Many people are calling for the GSEs to be broken up or dissolved. Certainly their “game” is ending, which means an enormous change in the way mortgages are financed in the USA. A certain similarity can be seen between the GSEs and investment banks, which also operate with extreme leverage and no depositor base. We expect some purely investment banks (those that can afford it) to acquire weak commercial banks to gain access to a depositor base and, thereby, cheaper funding. |
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Focus |
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(–) Banks: Citigroup has warned of further substantial write-downs. Lehman Brother is considering going private |
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(–) France: the mortgage market in France declined by 11% in the first half of 2008 |
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(+) Switzerland: a trade surplus of CHF 9.7 billion in first half 2008 |
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(+) Finland: unemployment dropped in June to 6.8% from 8.8% vs. in May and by 0.6% over one year ago |
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(+) Hungary: the central bank has maintained its overnight rate at 8.5% |
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(+) positive for bonds (–) negative for bonds (!) watch out (?) begs the question |
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