Bond Outlook July 16th
The US Administration is making up policy as fires break one after the other. The GSE crisis is the biggest yet, and solvency is more difficult to maintain than liquidity.
Bond Outlook [by bridport & cie, July 16th 2008]
Inflation vs. deflation. Yield curve flattening vs. steepening. These are the prosaic questions fixed-income investors have to ask in the light of the GSE (Government Sponsored Entities) crisis and of other evidence of the strangling effect of the mounting credit squeeze on the US economy and, consequently, on the rest of the world. Let us first, however, add our thoughts to the many comments written about the crisis surrounding Fannie Mae and Freddie Mac.
The GSE problem is about both liquidity and solvency. The US Administration is focusing its immediate efforts on solving the liquidity problem, but is still coy about whether its guaranty of GSE debt is implicit or explicit. Many commentators take the implicit guaranty for granted and as sufficient to bring back the GSEs’ credit worthiness (as measured by CDS) to the official AAA rating each GSE carries. We are a little sceptical and wonder what the Asian central banks are thinking after buying agency bonds in recent years to receive a touch more than Treasuries. Nevertheless, the liquidity problem seems to be relatively under control.