Well at Least the Banks are Strong: Trouble Ahead in Credit Markets Come 2010?
I shouldn't have to explain why this news in disconcerting but we can go there if you'd like. Watch the bouncing ball, we might be on to something with this idea of a 2012 doomsday. Personally I would love to see it sooner, now's as good a time as ever and I've got my contingency plan ready to go. What's my plan you ask? GTFO.
Financial institutions will take the spotlight from corporates as the biggest and most important borrowers in 2010, with high-grade companies' needs set to fall although high-yield and M&A financings could be prominent.
Global corporate bond sales of $1.02 trillion were the biggest ever and a 42% jump on 2008, while high yield issuance reached a three-year high at $153 billion.
This was facilitated by impressive investor flows into fixed income, attractive corporate yields compared to risk-free assets and rosier outlooks for economic activity. The momentum provided by those trends is now abating and attention is now returning to the financial sector.
"Clearly a large challenge awaits the financials (banks) market. That includes a lot of refinancing to be done, considerable uncertainty on regulation and against a backdrop of 1 trillion euro plus redemptions over the next few years, just in the Eurozone," said Ryan O'Grady, head of EMEA fixed income syndicate at JP Morgan.
For the past 12 months, banks have been supported either by state backing for their bond sales or directly via cheap funding central bank liquidity schemes. These are being formally withdrawn or discreetly discouraged as policy makers seek to make banks independent.
Have you ever seen a heroin addict go through withdrawal? Even in the movies? It's not pretty. Imagine that banks are the junkies and central bank liquidity is the dope - you can figure out the rest.
"I think volumes will increase dramatically, although it's a big question how it will be all be absorbed. A lot of banks had financing through the government guaranteed market and that has largely come to an end. We think there is something like 500 billion euros of European bank supply to come into the market in 2010," said Christopher Tuffey, head of European debt capital markets at Credit Suisse (CSGN.VX).
It is not just a question of sizeable supply but also of risk appetite and how investor demand is structured. Banks have been over-reliant on short-term, floating rate bonds. They need to raise longer-term finance which could be dominated by fixed rate investors. Furthermore, options such as securitization and covered bond markets are fragile or not a viable option for many borrowers.
"It's worrying when you think about how limited capital markets access is for the second and third tier banks. The U.S. banking system has hundreds of mid-cap banks that don't have decent access right now," said O'Grady.
Even those money-printing maniacs at the Fed came one step closer to cutting the cord and pulling away the spoon in their last FOMC statement, the first sign I've seen that they actually have a large pair after all. Sure, exceptionally low for an extended period of time isn't going anywhere any time soon but I'll take what I can get and this is encouraging. Could it be?
In light of ongoing improvements in the functioning of financial markets, the Committee and the Board of Governors anticipate that most of the Federal Reserve’s special liquidity facilities will expire on February 1, 2010, consistent with the Federal Reserve’s announcement of June 25, 2009. These facilities include the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, the Commercial Paper Funding Facility, the Primary Dealer Credit Facility, and the Term Securities Lending Facility. The Federal Reserve will also be working with its central bank counterparties to close its temporary liquidity swap arrangements by February 1. The Federal Reserve expects that amounts provided under the Term Auction Facility will continue to be scaled back in early 2010. The anticipated expiration dates for the Term Asset-Backed Securities Loan Facility remain set at June 30, 2010, for loans backed by new-issue commercial mortgage-backed securities and March 31, 2010, for loans backed by all other types of collateral. The Federal Reserve is prepared to modify these plans if necessary to support financial stability and economic growth.
This can go one of two ways (duh, awesome or really, really bad) and the outcome is based in the Fed's perception of reality. Either they are banking (ha) on their exceptional clairvoyant abilities leading their way out of the trench of frightening, crisis-based monetary policy or they are actually right and things are looking up. As much as I'd love to say this will end in disaster, I can't say I've seen any indicators that point to that as a definitive result. Then again, let's not forget I know the Fed and they aren't exactly known for knowing what the hell they are doing.
In many ways, it's natural to assume that I hope this ends in failure. Even though I get paid in dollars. You'd be right to think I'd feel that way but on the other hand, it's time to cut the dope and let the dope fiend recover already. Even if that means some DTs and barfing on the concrete vault floor for the banks.
Sop it up and deal. If the Fed and central banks around the world are right - pffft - then we may see an interesting shift in creative funding based less on risk and more on necessity. If they're wrong, we're basically fucked.
Either way you look at it, 2010 promises to be another exciting ride and I can't wait to strap in for this one.