29 Feb 2008 No Credit
The economy’s momentum in the fourth quarter of last year came almost entirely from exports as domestic spending evaporated. Gross domestic product rose at a 0.6% annualized rate following a 4.9% gain in the third quarter according to the Commerce Department. The government reported today that consumer spending rose 0.4%. But that increase is mostly due to rising prices. The Federal Reserve’s preferred measure of inflation climbed 0.3%, the most in four months.
Job losses are also on the rise as the Labor Department reported that initial claims for unemployment insurance climbed 19,000 last week to 373,000, higher than forecast. The level was the second-highest since a surge in claims in the aftermath of Hurricane Katrina in 2005, according to Bloomberg News.
Last week we discussed the demise of the auction market and the negative impact it was having on those who used it; including cities and states. Bloomberg reports that US municipal bonds are headed for their worst month in more than four years after collapsing demand for securities with rates set at periodic auctions sent debt costs for state taxpayers and hospitals as high as 20%. State and local government bonds fell 4.17% through yesterday, including reinvested interest, based on Merrill Lynch’s data. That’s the most since July 2003, when they tumbled 4.59%.Florida had to pay 5.35% yesterday to sell 30-year fixed-rate general obligation bonds, almost three-quarters of a percentage point more than at its Feb. 6 sale.
UBS AG predicts that credit-market losses at financial firms may top $600 billion making financial stocks drop again today. Credit-market losses will climb from $160 billion to more than $600 billion as investments funded with borrowed money are unwound, UBS wrote.
As banks rush to protect capital they are severely cutting back their lending. Hedge funds are another segment hurt by the worsening credit crunch, regardless of creditworthiness. It is reported this morning that Peloton Partners LLP, a London-based hedge fund manager is being forced to liquidate a $1.8 billion asset-backed fund. They say that Wall Street’s near abandonment has caused them to take this step. As funds shut down they are forced to liquidate assets at fire-sale prices thereby feeding the vicious cycle.
So far the Fed’s lower rates have been ineffective in getting Wall Street brokers and banks to relaxing their ever-tightening grip on credit. In fact, the trend appears to be getting worse not better. In his testimony yesterday before the Senate Banking Committee he said that some bank failures might occur. He did not expect any major banks to fail, however.
If the availability of credit continues to erode, the economy almost certainly will fall into recession. We invested in global financials in January. While not hurt too badly at present prices, it may become prudent to lighten or eliminate the position should the credit cycle continue to worsen. We have added to our technology holdings because these companies are the most reasonably valued, have the highest earnings potential, and generally have sufficient cash to forgo borrowing. Finally, a significant portion of our equity holdings are international as we expect better equity performance abroad than at home.
Have a nice weekend.
