Credit Bubble Weekly Potpourri

This is a weekly wrapup of sorts, except it is stories I found interesting that I did not previously comment on.

Credit stress is everywhere and it's hard to keep up with it all. Here are 10 miscellaneous newsworthy items from around the globe.

Italian Treasury Intervenes In Bond Markets

The Telegraph is reporting Italy supports bond market as spreads soar.

The Italian treasury has taken the highly unusual step of intervening in the debt markets to prevent a further surge in government bond yields as hedge funds with heavy exposure to the region scramble to raise liquidity.

A flight to safety has pushed the yield spread between 10-year Italian bonds and equivalent German Bunds to 55 basis points, the highest since the launch of the euro. A similar pattern has emerged across the southern belt of the eurozone, with spreads hitting post-EMU highs of 53 versus Greece, 44 for Portugal, 38 for Belgium and 36 for Spain.

A report in Italy's financial paper Il Sole said the sudden surge in spreads recalled the dramatic events of 1998 when the US hedge fund Long Term Capital Management was forced to liquidate huge positions in Italy and Spain, setting off a systemic chain reaction.

The newspaper reported that the Italian finance ministry had stepped in late on Tuesday to support the market by mopping up 10-year BTP treasuries. Investors had been encouraged to swap the "old bonds" for new five year instruments, alleviating the stress in the most neuralgic part of the financial system.

An Italian treasury official told the Telegraph that the move was intended to help funds weather the current bout of severe turbulence. "We're helping them swap illiquid securities for more liquid. It is unusual for us to do this at this time of year," he said.

The European Central Bank said the action did not violate the rules of monetary union. The Italian central bank is prohibited from buying Italian government debt under EU treaty law as this would inflate the common currency, but the treasury can adjust debt maturities if it wishes.

"These countries cannot devalue their way out of trouble as they used to do," said Simon Derrick, a currency strategist at the Bank of New York Mellon.

"The stress is surfacing in the bond markets instead as the default risk rises. Italy is now in the worst off all possible worlds because it needs lower rates to cushion the downturn. Instead it will have to pay higher rates on its debt. We are reaching the point where it could become a significant political issue," he said.

Eurozone Funding Freeze

Reuters is reporting a Eurozone Funding Freeze

Many intra-euro zone government bond spreads widened to level not seen since the euro's 1999 launch, with investors shunning bonds in Italy, Spain and Portugal and rushing into safe German government paper.

"A funding freeze by lenders, that appears already in progress, could cause first round casualties in Spain, Italy, Ireland, Portugal, Greece and Austria, countries collectively identified as the euro zone liability group," a UBS note said.

Eurozone Structured Debt Unwinds

The Financial Times is reporting Credit derivatives turmoil strikes.

In Europe, the cost of insuring the debt of the 125 investment-grade companies in the benchmark iTraxx Europe index surged to a new high of 156bp, before closing at 146bp on Friday. A move above 150bp would spark the unwinding of structured trades, according to BNP Paribas.

The markets are so illiquid that a few trades can lead to sharp movements, producing violent price swings and knock-on effects.

Tim Bond, head of global asset allocation at Barclays Capital, said: “It’s inflicting heavy losses on the banking system, eroding their capital and reducing their ability to lend. The spread widening is so severe, you’re seeing a rise in borrowing rates across the board for everybody except top-quality governments. It’s affecting both the price and availability of credit.”

US Banks Face Systemic Margin Call

JPMorgan says banks face "systemic margin call," $325 billion hit

Wall Street banks are facing a "systemic margin call" that may deplete banks of $325 billion of capital due to deteriorating subprime U.S. mortgages, JPMorgan Chase & Co (JPM), said in a report late on Friday.

"A systemic credit crunch is underway, driven primarily by bank writedowns for subprime mortgages," according to the report co-authored by analyst Christopher Flanagan. "We would characterize this situation as a systemic margin call."

Australia On Verge Of Recession

The Australian is reporting Australia 'on verge of recession'.

THE economy is headed for recession next year, with a 50 per cent plunge in share values and a double-digit drop in house prices - that's what one analyst says.

Morgan Stanley's chief market strategist Gerard Minack introduced a brief to clients last week saying: "I'm bearish - really bearish."

The problem is not that the market is overvalued, relative to earnings, but rather that earnings are themselves inflated and headed for a fall. Based on profit figures back to 1970, earnings are 44 per cent above their long-term trend. In the three recessions since then, real earnings per share fell by between 36 and 65 per cent from peak to trough.

"You've got to argue that earnings do revert to their mean. On almost every measure we've got for earnings, be it profit share of GDP, return on assets or margins, it looks unsustainable," he says.

Earnings have been inflated by spendthrift households running down their savings. While the Reserve Bank has argued that fears about housing debt are without foundation because household balance sheets are strong, Minack says the picture looks a lot worse when you look instead at household cash flow.

The latest annual national accounts show the household sector remains cashflow negative, with the deficit of 3.75 per cent of GDP accounting for half the current - account deficit. Besides, he says, household balance sheets also looked fantastic in Japan in 1990, before its lost a decade of economic growth.

Minack is not persuaded by the proposition that Australia's housing market is somehow immune from the excesses of the US. Australians have more leverage, are as reliant upon equity extraction and base their household balance sheet on a housing stock that is far more expensive than their US equivalents.

"People miss the point that we're hugely wrapped up in the global credit crunch because we are one of the world's largest issuers of capital, with the most over-priced finance sector in the developed world and a rickety housing sector.

"People think we're Teflon coated because of links to China. I don't think that's true."

Supplier Strike Hits GM in Canada and US

Bloomberg is reporting GM Loses Almost a Third of Daily Output as Plant Closings Widen.

General Motors Corp. is losing almost a third of its daily U.S. and Canadian vehicle production as parts shortages caused by an 11-day supplier strike shut down more of the automaker's manufacturing network.

GM is building about 5,000 fewer vehicles each day than its 2007 average of 16,000, according to a Bloomberg estimate. The world's largest automaker has closed seven truck factories so far and plans to trim output at another next week.

The closures, sparked by a strike at former subsidiary American Axle & Manufacturing Holdings Inc., will help reduce a stockpile of GM trucks that on Feb. 1 was 24 days higher than the industry average.

The automaker yesterday announced nine additional engine, transmission and metal-stamping factories would be closed starting March 10 in Michigan, Indiana, Ohio and New York state. That will bring the number of affected parts and auto-assembly factories at Detroit-based GM to 29.

At the beginning of last month, GM had 627,600 trucks in inventory, enough to supply U.S. dealers for 113 days, according to the latest figures from trade publication Automotive News. Analysts consider a 60-day supply normal.

Credit-default swaps on GM debt reached their highest price since April 19, 2006, gaining 53 basis points to 1,130 basis points, according to CMA Datavision in New York. The contracts are designed to protect bondholders against default. An increase in price indicates a decline in the perception of a company's credit quality.

Why is GM producing trucks and cars at all if it is sitting on a 116 day supply? If anything, this strike is helping GM.

Remittances to Mexico Plunge

Dallas News is reporting Remittances to Mexico see biggest drop in 13 years.

Remittances to Mexico were down nearly 6 percent in January, the biggest drop in 13 years, which experts attributed to a downturn in the U.S. economy and anti-immigrant policies.

In its report this week, Mexico's central bank, known as the Bank of Mexico, said remittances fell to $1.65 billion in January from $1.76 billion a year earlier, signaling the biggest decline since the bank began recording remittances in 1995. Remittances are the second-biggest source of foreign currency inflows behind oil exports for Mexico, though they comprise just about 3 percent of the country's gross domestic product.

"Fundamentally there are two main reasons for the decline in the last few months," said Raymundo Tenorio Aguilar, economic expert at the Monterrey Institute of Technology and Higher Education. "One, the migration policies in the United States, and two, a very important one, the few options in Mexico offered to those who receive remittances to turn that money into savings."

Other Mexican officials said the decline is a reflection of the worsening U.S. economy, particularly in the area of construction. The U.S. construction industry accounts for about 20 percent of jobs for Mexicans living in the country, according to the central bank.

Jefferson County Considers Bankruptcy

Bloomberg is reporting Alabama County Won't Pledge $184 Million for Swaps.

Jefferson County, its interest expense on $3 billion in floating-rate obligations skyrocketing, is caught in a faltering credit market that has more than doubled costs for many borrowers in the municipal-bond market. Investors are no longer willing to trust much of the insurance backing the bonds, as the guarantors face subprime mortgage losses, leaving the county paying interest rates as high as 10 percent.

Compounding the problem, interest-rate swaps the county bought from JPMorgan, Bear Stearns Cos., Bank of America Corp. and Lehman Brothers Holdings Inc. to shield it against rising borrowing costs have backfired. The floating rates it pays on its bonds have climbed while the variable rate banks pay the county under the agreements has declined, pushing interest costs higher

In a move that may cost it $184 million, said it wouldn't pledge reserves against $5.4 billion of interest-rate swaps tied to sewer debt that its bankers may demand.

While county officials say filing for bankruptcy isn't being considered, they concede it's an option. That prompted Standard & Poor's to lower the county's general obligation bond rating three levels to A from AA. Earlier today, the company cut the $3.2 billion sewer debt three levels to CCC, the eighth highest non-investment grade, and said the rating could move up or down in the short-term.

The county is likely working to convert its auction-rate securities to floating-rate debt and will purchase a bank letter of credit to guarantee the debt, generating a higher rating.

Lastly, the county could sell or lease the sewer system to a private buyer to pay off bondholders.

Lost Decade Of Wage Growth In US

The New York Times is talking about a decade of stagnant wages.

The median household earned $48,201 in 2006, down from $49,244 in 1999, according to the Census Bureau. It now looks as if a full decade may pass before most Americans receive a raise.

Hume Bank in Missouri Fails

The Houston Chronicle is reporting Small Missouri Bank Is Shuttered

A small Missouri bank was shut down by state regulators on Friday, a failure caused by financial mismanagement, officials said.

"The demise of the bank is a direct result of alleged improprieties by former bank management, which resulted in past-due loans not being reported and the true condition of the bank being misrepresented," Eric McClure, Missouri's commissioner of finance, said in a statement. "Most of these loans were poorly conceived and inadequately serviced, resulting in losses which exhausted the bank's capital and ultimately resulted in its failure."

It was the second failure this year of an FDIC-insured bank. The first, Douglass National Bank, also was in Missouri; it had $58.5 million in assets and failed in January.

Both were dwarfed by the failure last September of NetBank Inc., an online bank with $2.5 billion in assets, whose collapse was attributed to an excessive level of mortgage defaults.

The bank had about $1.1 million in deposit accounts that exceeded the FDIC limit. Those customers will become creditors in its receivership for the uninsured amounts, the agency said.

More bank failures are coming. Lots more.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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