Q1 2006 Flow of Funds

By: Doug Noland | Fri, Jun 9, 2006
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For the week, the Dow dropped 3.2%, and the S&P500 declined 2.8%. Some of the favorite economically-sensitive issues were hammered. The Transports fell 4.6%, and the Morgan Stanley Cyclical index dropped 5.7%. The Utilities dipped 0.2%, and the Morgan Stanley Consumer index declined 1.4%. The small cap Russell 2000 fell 4.9%, and the S&P400 Mid-cap index was hit for 4.5%. The NASDAQ100 declined 3.8%, and the Morgan Stanley High Tech index sank 4.8%. The Semiconductors were pounded for 6.4%. The Street.com Internet Index declined 3.5%, and the NASDAQ Telecommunications index dropped 5.2%. The Biotechs fell 2.7%. The Broker/Dealers were down 3.6%, and the Banks declined 1%. With bullion down $30.75, the HUI Gold index sank 11.2%.

For the week, two-year Treasury yields jumped 9 bps to 5.00%, and five-year yields added 4 bps to 4.93%. Bellwether 10-year yields declined 2 bps to 4.97%. Long-bond yields fell 7.5 bps to 5.02%. The 2yr/10yr spread reversed sharply, ending the week inverted 3 bps. Benchmark Fannie Mae MBS yields added 3 bps to 6.19%, this week underperforming Treasuries. The spread on Fannie's 4 5/8% 2014 note ended the week three wider at 28, and the spread on Freddie's 5% 2014 note was two wider at 29. The 10-year dollar swap spread increased 0.75 to 56.0. Corporate bond spreads widened again this week, with junk underperforming. The implied yield on 3-month December '06 Eurodollars jumped 12 bps to 5.425%.

Investment grade issuers included Aetna $2.0 billion, Boston Scientific $1.2 billion, JPMorganChase $1.0 billion, Federal Home Loan Bank $1.0 billion, CIT Group $1.0 billion, BJ Services $500 million, American General $500 million, International Lease Finance $600 million, Ohio Power $350 million, Marriot $350 million, PSI Energy $325 million, Mutual of Omaha $300 million, San Diego G&E $250 million, Autozone $200 million, and Illinois Power $75 million.

Junk bond funds reported inflows of $40.8 million last week. Junk issuers included Royal Caribbean $900 million, Sovereign Capital $300 million, XCEL Energy $300 million, Hovnanian $250 million, Jacobs Entertainment $210 million, Interline Brands $200 million, and AAC Group $150 million.

Convert issuers included Interpublic Group $700 million, Millipore $550 million, Advanced Medical Optics $500 million, Charles River $300 million, Level 3 Communications $300 million, UGS Capital $300 million, and Spansion LLC $180 million.

Foreign dollar debt issuers included Telefonica Emisiones $5.25 billion, National Australia Bank $1.5 billion, DBS Bank $900 million, and Cosipa Commercial $200 million.

June 7 - Bloomberg (Steve Rothwell): "Sales of covered bonds in Europe rose 25 percent in the first quarter, pushing the market to a record 1.6 trillion euros ($2.05 trillion), Standard & Poor's said... The bonds, known as pfandbriefe in Germany, are backed by mortgages or loans to public sector institutions. Unlike asset-backed securities, the notes remain on the borrower's balance sheet..."

Japanese 10-year JGB yields dropped 7 bps this week to 1.84%. The Nikkei 225 index sank 6.6% (down 8.4% y-t-d). German 10-year bund yields were little changed at 3.93%. Emerging equity markets were hammered, while emerging debt markets were notably resilient. Brazil's benchmark dollar bond yield dropped 13 bps to 7.07%. Brazil's Bovespa equity index sank 7.6%, reducing 2006 gains to 4.8%. The Mexican Bolsa was hammered for 8.6% this week, ending today unchanged for the year. Mexico's 10-year dollar yields gained 4 bps to 6.31%. Russian 10-year dollar Eurobond yields added 2.5 bps to 6.875%. The Russian RTS equities index dropped 11%, reducing 2006 gains to 21% and 52-week gains to 102%. India's wild Sensex equities index ended the week down 6% (up 4.4% y-t-d).

Freddie Mac posted 30-year fixed mortgage rates declined 5 bps to 6.62%, up 106 basis points from one year ago. Fifteen-year fixed mortgage rates slipped 3 bps to 6.23%, 109 bps higher than a year earlier. One-year adjustable rates fell 5 bps to 5.63%, an increase of 142 bps over the past year. The Mortgage Bankers Association Purchase Applications Index was unchanged for the week. Purchase Applications were down 16.9% from one year ago, with dollar volume down 16.2%. Refi applications slipped 1.4% last week. The average new Purchase mortgage declined to $226,500, while the average ARM dropped to $340,600.

Bank Credit rose $11.4 billion last week to a record $7.950 Trillion, with a y-t-d gain of $444 billion, or 14.0% annualized. Bank Credit inflated $739 billion, or 10.2% over 52 weeks. For the week, Securities Credit slipped $1.9 billion. Loans & Leases jumped $13.3 billion for the week, with a y-t-d gain of $281 billion (12.1% annualized). Commercial & Industrial (C&I) Loans have expanded at a 15.2% rate y-t-d and 12.8% over the past year. For the week, C&I loans added $0.7 billion, and Real Estate loans jumped $11.1 billion. Real Estate loans have expanded at a 12.5% rate y-t-d and were up 13.4% during the past 52 weeks. For the week, Consumer loans increased $1.7 billion, and Securities loans rose $8.8 billion. Other loans were down $9.0 billion. On the liability side, (previous M3 component) Large Time Deposits increased $2.1 billion.

M2 (narrow) "money" supply added $2.8 billion to $6.809 Trillion (week of May 29). Year-to-date, narrow "money" has expanded $119 billion, or 4.2% annualized. Over 52 weeks, M2 has inflated $313 billion, or 4.8%. For the week, Currency slipped $0.3 billion. Demand & Checkable Deposits gained $7.3 billion. Savings Deposits fell $15 billion, while Small Denominated Deposits rose $3.4 billion. Retail Money Fund assets gained $7.3 billion.

Total Money Market Fund Assets, as reported by the Investment Company Institute, declined $10.6 billion last week to $2.064 Trillion. Money Fund Assets have increased $7 billion y-t-d, with a one-year gain of $176 billion (9.3%).

Total Commercial Paper gained $8.2 billion last week to $1.797 Trillion (4wk gain of $37.2bn). Total CP is up $147 billion y-t-d, or 20.2% annualized, while having expanded $279 billion over the past 52 weeks (18.4%).

Asset-backed Securities (ABS) issuance jumped to $24 billion this week. Year-to-date total ABS issuance of $320 billion (tallied by JPMorgan) is running slightly below 2005's record pace, with y-t-d Home Equity Loan ABS sales of $223 billion 9% above last year.

Fed Foreign Holdings of Treasury, Agency Debt ("US marketable securities held by the NY Fed in custody for foreign official and international accounts") rose $11.4 billion to a record $1.626 Trillion for the week ended June 7th. "Custody" holdings are up $106.9 billion y-t-d, or 15.9% annualized, and $194 billion (13.6%) over the past 52 weeks. Federal Reserve Credit gained $2.5 billion to $829 billion. Fed Credit has increased $3.0 billion y-t-d, or 0.8% annualized. Fed Credit is up 5.0% ($39.4bn) during the past year.

International reserve assets (excluding gold) - as accumulated by Bloomberg's Alex Tanzi - are up $409 billion y-t-d (23% annualized) and $606 billion (16%) in the past year to $4.455 Trillion.

Currency Watch:

The dollar index jumped 2% this week. On the upside, the Turkish Lira rose 4.4%, the Israeli shekel 1.1%, the Brazilian real 0.7%, and the New Zealand dollar 0.5%. On the downside, the Iceland krona dropped 4%, the Polish zloty 2.9%, the Colombian peso 2.6%, and the Norwegian krone 2.5%.

Commodities Watch:

June 9 - Bloomberg (Jeff Wilson): "The U.S. winter-wheat crop will be 4.5 percent smaller than forecast in May as unusually hot, dry weather last month from Texas to South Dakota damaged the crop, the government said."

For the week, Gold dropped 4.8% to $607.45, and Silver sank 7.2% to $11.21. Copper was hit for 8.9%. July crude declined 70 cents to $71.63. July Unleaded Gasoline fell 2%, and July Natural Gas dropped 6.8%. For the week, the CRB index declined 2.8% (y-t-d up 2.5%). The Goldman Sachs Commodities Index (GSCI) fell 1.6%, lowering y-t-d gains to 9.9%.

Japan Watch:

June 5 - Bloomberg (Lily Nonomiya): "Japanese companies increased capital spending faster than economists expected in the first quarter, signaling corporate growth will help propel the economy toward its longest postwar expansion. Capital spending, including software, rose 13.9 percent in the three months ended March 31 from a year earlier..."

June 7 - AFX: "The [Japanese] central bank said it sees a growing risk of 'a rising pressure' on pay and prices. It also sees a great need for restraint in public expenditures. The bank said in its report for the second quarter that unemployment is the lowest for many years, and reached 4.8 percent of the work force in March. But one of the consequences of this is that businesses are now starting to compete for staff by offering higher pay, the central bank said. In addition, there are signs of general bottleneck problems in the financial sector and especially in the construction sector, where unemployment has become very low this year."

China Watch:

June 9 - AFP: "China's outstanding bank loans surged 15.97 percent year-on-year in the first five months of the year, further stoking concerns about overheating in the economy. In the first five months, newly added loans reached 2.12 trillion yuan (265 billion dollars), almost accounting for the target for the entire year of 2.5 trillion yuan set by the central bank. Chinese banks extended 209.4 billion yuan in loans during May alone, nearly double that of the same month last year..."

June 9 - Bloomberg (Nerys Avery and Jianguo Jiang): "China's money supply growth accelerated in May, Shanghai Securities News reported, adding to pressure on the central bank to let the yuan strengthen. China's M2 money supply rose 19.5 percent from a year earlier after an 18.9 percent increase in April..."

June 5 - Bloomberg (Samuel Shen and Irene Shen): "China should raise the capital gains tax on the sale of second homes to as much as 50 percent to curb property speculation, said a researcher for the country's top planning agency."

June 8 - Bloomberg (Samuel Shen): "China's first initial public offering since a yearlong ban was lifted drew 213 billion yuan ($27 billion) of bids, 481 times the shares on offer..."

Asia Boom Watch:

June 7 - Bloomberg (Theresa Tang and James Peng): "Taiwan's export growth cooled in May as higher energy costs hurt overseas demand... Overseas sales increased 10.5 percent from a year earlier to $18.9 billion after gaining 15 percent in April..."

June 8 - Bloomberg (Anuchit Nguyen): "Thailand's consumer confidence fell in May to its lowest in four years on concern economic growth may slow because of high fuel costs and delays in government spending."

Unbalanced Global Economy Watch:

June 5 - Bloomberg (Tatsuo Ito and Lily Nonomiya): "The issue of global trade imbalances won't be a major topic when finance ministers from the Group of Eight nations meet this month in St. Petersburg, said Japanese Vice Finance Minister Koichi Hosokawa."

June 9 - Bloomberg (Alexandre Deslongchamps): "Canadian employers, led by oil companies and banks like GMP Capital Trust, hired 96,700 new workers in May, matching a record and pushing the unemployment rate to the lowest in more than three decades."

June 7 - Bloomberg (Theophilos Argitis): "Canadian builders took out fewer permits than expected in April, providing more evidence the nation's housing market is cooling. The value of permits issued by municipalities fell 11 percent in April to C$4.99 billion ($4.49 billion), a five-month low..."

June 7 - Bloomberg (Fergal O'Brien): "European service industries grew at the fastest pace in almost six years in May, indicating a strengthening economy as the region's central bank prepares to raise interest rates."

June 7 - Bloomberg (Jonas Bergman): "Sweden's economic growth accelerated to 1.1 percent in the first quarter, the fastest pace since the second quarter of 2000, on a surge in corporate investment and exports... From a year ago, gross domestic product grew a working day-adjusted 4.1 percent..."

June 9 - Bloomberg (Balazs Penz): "East European economic growth accelerated in the first quarter at the fastest pace in the European Union as entry in the world's largest trading region boosted exports, threatening to overheat their economies. Growth in the Czech Republic was a record 7.4 percent, Latvia reported 13.1 percent expansion, the EU's fastest, Slovenian growth accelerated to 5.1 percent and Hungary's gross domestic product was 4.6 percent higher than a year ago... Slovakia's growth was 6.3 percent and Poland's 5.1 percent."

June 8 - Bloomberg (Hans van Leeuwen and Gemma Daley): "Australian employment soared in May, driving the jobless rate to a 30-year low and worsening a worker shortage that may push up wages and force the central bank to raise interest rates again. Employment climbed 56,000, the biggest gain in almost two years... The jobless rate fell to 4.9 percent..."

June 7 - Bloomberg (Hans van Leeuwen): "Australia's economy accelerated in the first quarter as rising consumer spending and investment by miners...drove annual growth to its fastest pace in almost two years. Gross domestic product gained 0.9 percent from the fourth quarter, when it rose a revised 0.7 percent..."

Latin America Watch:

June 9 - Bloomberg (Helen Murphy): "Colombia's exports rose 11.9 percent in March, the statistics agency said."

Central Bank Watch:

June 8 - Bloomberg (John Fraher): "In a global wave of interest-rate increases, central banks from Frankfurt to Seoul moved to counter concerns inflation is accelerating. The European Central Bank, the Reserve Bank of India, the Bank of Korea and the Reserve Bank of South Africa raised their benchmark rates a day after Turkey lifted borrowing costs for the first time in five years. At least five Federal Reserve officials said this week they're concerned about inflation... Inflation 'is going to be presenting central banks with an issue of credibility,' said Julian Callow, an economist at Barclays Capital... 'Rates are likely to be rising more than financial markets are discounting.'"

June 8 - Bloomberg (Jonas Bergman): "Denmark's central bank raised its benchmark interest rate by a quarter of a percentage point to 3 percent, following an equivalent move by the European Central Bank..."

June 8 - Bloomberg (Seyoon Kim): "South Korea's central bank unexpectedly increased its benchmark interest rate a quarter percentage point to a three-year high, predicting inflation will accelerate."

June 7 - Bloomberg (Anuchit Nguyen): "Thailand's central bank raised its key interest rate for the ninth consecutive meeting...to 5 percent..."

June 8 - Bloomberg (Nasreen Seria and Mike Cohen): "South Africa's central bank unexpectedly raised its benchmark lending rate by half a percentage point...as higher oil prices and a drop in the rand threaten to stoke inflation. The Reserve Bank increased the repurchase rate to 7.5 percent."

June 7 - Bloomberg (Ben Holland): "Turkey's central bank raised its benchmark interest rate by 1.75 percentage points, more than double analyst forecasts, to stem a decline in the lira... The bank raised the rate to 15 percent, the first increase in almost five years..."

June 8 - Bloomberg (Tracy Withers): "New Zealand central bank Governor Alan Bollard kept the benchmark interest rate at a record-high 7.25 percent, saying the fastest inflation in six years will prevent him lowering borrowing costs this year."

Bubble Economy Watch:

May Import Prices were up 8.3% from a year earlier. At $63.4 billion, April's Trade Deficit was the largest since January. April Goods Exports were up 10.3% from April 2005, and Goods Imports were up 10.9%.

June 9 - Dow Jones (Ann Keeton): "Following the lead of Delta Air Lines Corp., American Airlines...and United Airlines...on Friday added fuel surcharges of $10 each way on tickets for trans-Atlantic trips. US Airways...and Northwest...matched Delta's fare hikes on Thursday. That increases the fuel surcharge on trans-Atlantic routes to $75 each way. United on Friday also raised domestic fares by $5 to $10 each way... JP Morgan analyst Jamie Baker said he expected other airlines to raise domestic fares. 'Given continued domestic revenue traction and lack of customer resistance to higher fares, we anticipate a full competitive match over this weekend,' he wrote... He said that would represent the sixth broad industry fare increase so far this year."

Real Estate Bubble Watch:

June 9 - Bloomberg (Cassie M. Chew): "Manhattan apartment prices rose this year even as the real estate market slowed elsewhere, the New York Post said, citing a report by the Real Estate Board of New York. The median sale price for Manhattan apartments rose 13 percent in the first quarter from a year earlier to $749,000, the Post said. Condominiums rose 22 percent to a median price of $838,000..."

Mortgage Finance and Real Estate Bubble Watch:

June 7 - Bloomberg (James Tyson): "Fannie Mae's regulator today faulted the directors of the biggest U.S. mortgage finance company for not putting a stop to accounting practices that led to almost $11 billion in errors from 1998 until 2004. 'The board of directors is really the last line of defense in the company and they failed to be sufficiently informed and independent,' James Lockhart, acting director at the Office of Federal Housing Enterprise Oversight... 'Their oversight failings meant that they did not discover, let alone correct, the redundant variety of unsafe and unsound practices' at the firm. Among the directors at the time was current Chief Executive Officer Daniel Mudd."

Energy and Crude Liquidity Watch:

June 7 - Bloomberg (Dan Lonkevich): "BHP Billiton, Australia's biggest oil and gas producer, said it will proceed with plans to develop the Shenzi field in the Gulf of Mexico, a joint-venture expected to cost $4.4 billion."

June 9 - Bloomberg (Angela Macdonald-Smith): "BHP Billiton's $4.4 billion Shenzi oil project is more than twice as expensive as some of the company's earlier Gulf of Mexico projects because of rising costs and the need to build a pipeline, Goldman Sachs said. The project will cost about $11 per barrel of reserves, compared with about $3.33 per barrel for Melbourne-based BHP's Mad Dog project, $4.40 for Atlantis and about $5.67 for Neptune..."

June 7 - Bloomberg (Lucian Kim and Todd Prince): "Russia, hit by blackouts and power cuts in the past 12 months, is considering plans to spend 2.4 trillion rubles ($89 billion) in private and state money on its power industry by 2010 to sustain an eight-year economic boom."

June 7 - Bloomberg (Andy Critchlow): "Qatar's oil minister said that the cost of hiring offshore oil and gas drilling rigs in the Persian Gulf has soared almost five-fold since 2000 amid surging demand as producers seek to boost oil output."

June 5 - Bloomberg (Andrea Rothman and Susanna Ray): "The world's airlines' losses in 2006 may reach $3 billion, 36 percent more than forecast in March, as rising oil prices outstrip the benefits of economic growth and higher ticket prices, an industry group said."

Fiscal Watch:

June 6 - Dow Jones (John Godfrey): "The federal government incurred a budget deficit of about $223 billion in the first eight months of fiscal year 2006, $50 billion less than the shortfall recorded during the same period a year earlier, according to the Congressional Budget Office... The federal government took in about $175 billion, or 13%, more in the first eight months of fiscal 2006 than it did during the same period of 2005. By contrast, spending was about $126 billion, or 8%, higher in the first eight months of the fiscal year than during the same period the year before."

Speculator Watch:

June 8 - Financial Times (Tom Mitchell): "Hedge funds confront Asia's financial system with some of its biggest risks since the regional crisis of 1997-98, according to Hong Kong's second highest ranking official. Speaking at a gathering of international securities regulators, Rafael Hui, chief secretary, argued that hedge funds and complex new financial instruments posed potentially severe regulatory challenges to a region that was also adjusting to higher interest rates. 'I am not sure whether there is sufficient transparency in transactions involving hedge funds to allow regulators to understand and manage the risks involved in the exposure of commercial and investment banks to these firms," Mr Hui said... He fretted about 'the high volume and great complexity of new financial instruments for risk transfer, notably financial and credit derivative products.'"

June 9 - Bloomberg (Patricia Cheng): "Hedge funds investing in emerging markets lost 3.98 percent in May as stock markets from India to Chile slumped, suggesting managers need to increase their hedging to weather the current sell-off in shares."

June 7 - Financial Times (Joanna Chung): There was something different about the sharp sell-off in emerging market debt last month compared to downturns of the past three years: the prominence of the D word. Derivatives based on emerging market credits have come into their own. The latest sell-off highlighted the fact that derivative instruments are becoming the method of choice for investors to hedge their risks in emerging markets. 'Historically, investors shed risk through external debt but you didn't see that as much this time,' said Jeffrey Grills, co-head of emerging markets at JPMorgan Asset Management. 'What you did see was [credit default swaps] getting pretty heavily used to hedge their positions.'"

Q1 2006 Flow of Funds:

With attention understandably fixated on wild global financial market action, few will give much attention to the most recent Credit data from the Federal Reserve. That's unfortunate. The data continue to provide the best glimpse of a Credit system run amuck and so far demonstrating no capacity for adjustment or moderation. Moreover, record first-quarter Credit growth and the ongoing massive outflow of finance from the U.S. financial system to the Rest of World go a long way toward identifying the epicenter of the destabilizing liquidity that fueled wild ("parabolic") speculative runs in markets around the world.

The numbers have gotten so big. Total Non-Financial Debt (NFD) expanded at an 11.0% seasonally-adjusted and annualized (SAA) pace during the first quarter, up from the fourth quarter's 9.4% and likely the strongest quarterly pace in nearly twenty years. Non-financial debt has not posted a year of double-digit growth since 1986's 11.9%. NFD averaged 5.4% annual growth during the ("dis-inflationary") 1990s.

In nominal (SAA) dollars, Non-Financial debt expanded $2.914 Trillion during the quarter, up from the fourth quarter's $2.434 Trillion and Q1 2005's $2.351 Trillion. For comparison, Non-Financial debt expanded $2.30 TN in 2005, $1.945 TN in 2004, $1.648 TN in 2003, $1.323 TN in 2002, $1.099 TN in 2001, and $827 billion during 2000. For added perspective, Total Non-Financial Debt increased on average $706 billion annually during the nineties. Our system now creates approximately this amount of Credit in three months.

Interestingly - and in "Classic" Credit Bubble Blow-Off Dynamic Fashion - Household Mortgage Debt expanded at a 13.6% rate during the quarter, up from the fourth quarter's 13.4% and Q1 2005's 11.8%. I suggest that Ongoing Massive Mortgage Credit Inflation explains why general home prices have held up so well - to this point. Total Household debt expanded at an 11.6% rate, up from the fourth quarter's 11.1%.

Corporate debt expanded at a 9.5% rate, up from the fourth quarter's 5.2% pace to the strongest growth since the booming second quarter of 2000. If the current pace of corporate borrowings holds, 2006 will mark the strongest annual rate of growth since 1999's 9.9%. It is worth noting that Corporate debt expanded 5.5% in 2005, 3.7% in 2004, 1.9% in 2003, 0.7% in 2002, 4.9% in 2001, and 8.3% during 2000. We cannot dismiss the current momentum of corporate borrowings.

State & Local Governments increased borrowings at a 5.8% pace, down from the fourth quarter's 8.6%. State & Local first-quarter Receipts were up 5.7% from one year ago, and Expenditures were up 4.9%. Federal Government borrowing expanded at a 12.9% SAA pace. First quarter Federal Receipts were up 9.3% from a year earlier, with Expenditures up 5.7% y-o-y.

Total (Non-Financial and Financial) Credit Market Debt (TCMD) increased a nominal $1.004 Trillion during the quarter - a rate of 9.9% - to $41.698 Trillion. TCMD was up $3.700 Trillion over the past four quarters, or 9.7%. During this period GDP expanded $839 billion, or 6.9%, to $13.037 Trillion. Or, from another angle, the past year's ("parabolic") increase in Total Credit Market Borrowings was equal to almost 30% of GDP.

Financial Sector borrowings expanded at an 11.5% pace. Over the past four quarters, Financial Sector market borrowings have increased $1.179 Trillion, or 9.8%, the strongest pace of growth since 2003. Outstanding Asset-backed Securities (ABS) expanded at a SAA $663 billion to $3.200 TN during Q1. ABS expanded at a 21% pace during the quarter, with a one-year gain of almost 28% and a two-year surge of 51%. And, for the quarter, almost 90% of the assets collateralizing ABS were mortgage or mortgage-related. Outstanding (agency-related) Mortgage-Backed Securities (MBS) expanded at a SAA $348 billion, the strongest pace in over two years. MBS expanded at an 8.2% pace during the quarter, with a four-quarter rise of 5.8%. The GSEs expanded at a 3.3% rate to $2.29 TN during the quarter, with assets about unchanged over the past year.

During the first quarter, Commercial Banking's "Net Acquisition of Financial Assets" jumped to a blistering SAA $957 billion. This is a continued (sharp) acceleration from 2005's $791bn, 2004's $739bn, 2003's $506bn, 2002's $477bn, and 2001's $350bn. And, for comparison, Bank Assets expanded on average $275 billion (6.4%) annually during the decade of the nineties. Bank Credit accelerated to an eye-opening 11.3% rate during the quarter to $7.668 TN, with a one-year gain of 9.7% ($675bn). Bank Credit is up 19.8% in eight quarters. Bank Loans expanded at a 10.5% rate (up from the fourth quarter's 9.6%) to $5.527 TN, with a one-year rise of 11.8% ($584bn). Over the past year, Bank holdings of Corporate Bonds were up 13.9% to $711 billion, and Mortgages were up 12.5% to $3.025 TN. Holdings of Government Securities were down 1.7% y-o-y to $1.225 TN.

What Monetary Liabilities were created through this historic Bank expansion? Total Deposits expanded at an 8.4% rate during the quarter to $5.604 TN. Total Deposits were up 9.1% over the past year, with Checkable Deposits down 6% (to $585bn), Savings Deposits up 7.3% ($3.581bn), and Large Time Deposits up 22% ($1.438TN). "Federal Funds and Repos" expanded at a 15% pace during the quarter to $1.131 TN, with a one-year gain of 11%. Bank Credit Market Borrowings increased at a 13% pace to $837 billion, with a one-year gain of 7.8%. Miscellaneous Bank Liabilities expanded at a 28% pace during the quarter to $1.720 TN, although this was basically a reversal from the fourth quarter's decline.

Echoing global market excess, Security Brokers and Dealers' "Net Acquisition of Financial Assets" surged to a record $611 billion SAA during the quarter to $2.296 Trillion. Broker/Dealer Assets expanded at a 28% rate during Q1, with a one-year gain of 18% and a two-year surge of 35%. Miscellaneous Assets were up nominal $101 billion during the quarter to $1.323 Trillion, with a one-year gain of 26%. Holdings of Credit Market Instruments increased at a 14.8% rate during the quarter to $504 billion. Over the past year, Credit Market holdings were up 15%, Agency/MBS 20% (to $129bn), Security Credit Assets 24% ($249bn), and Corporate Bonds 27% ($345bn). On the Liability Side, "repos" jumped 32% over the past year to $818 billion, Security Credit 8% ($847bn), and Due Affiliates 25% to $1.089 TN. Broker/Dealer Assets have more than doubled in six years.

Elsewhere, Savings Institutions' Assets expanded at an 8.8% rate during the quarter to $1.829 TN, with a one-year gain of 11.0%. Life Insurance Assets expanded at an 11.9% rate during the quarter to $4.80 TN, with a one-year rise of 7.3%. Real Estate Investment Trust (REIT) Assets expanded at a 35% rate during the quarter to $385 billion (up 44% y-o-y), Finance Company Assets declined at a 7.8% rate to $1.30 TN (down 8.2% y-o-y). Credit Union Assets expanded at a 9.9% rate during the quarter to $703 billion (up 4.8% y-o-y).

Money Market Funds Assets expanded at a 1.4% rate during the quarter to $2.014 TN, although assets were up 9.4% from a year ago. "Funding Corporations" ("Funding subsidiaries, nonbank financial holding companies, and custodial accounts for reinvested collateral of securities lending operations") Assets expanded at an 18% rate during the quarter to $1.963 TN, with a one-year gain of 19% ($314bn) and a two-year gain of 55% ($700bn). The largest "Funding Corp" Asset - "Investment in Brokers and Dealers" - was up 23% over the past four quarters to $808 billion.

The Mortgage Finance Bubble relentlessly dominates the Credit system. Total Mortgage Debt (TMD) expanded at a seasonally-adjusted and annualized $1.596 Trillion, second only to Q3 2005's $1.677 SAA. This compares to the $267 billion annual average from the nineties and at this pace even surpasses 2005's record $1.484 Trillion mortgage debt growth. In nominal dollars, first quarter TMD expanded at a 12.2% pace to $12.329 Trillion, with a one-year gain of 14.7%. Home Mortgage Debt expanded at a 12.2% rate during the quarter (up 14.8% y-o-y). Commercial Mortgage Debt expanded at a 12.4% rate during the quarter, with a one-year gain of a noteworthy 16.4%.

It is largely mortgage Credit excesses that fuel Asset inflation and attendant over-consumption, in the processes fostering ongoing unprecedented Current Account Deficits. The Current Account, along with rampant outflows to play the global market boom, largely explain the massive financial flows out to the "Rest of World" (ROW) - that are represented by the ROW accumulation of U.S. asset holdings.

"Rest of World" "Net Acquisition of Financial Assets" surged to a SAA $1.492 TN, ending the first-quarter at an unfathomable $11.4 Trillion. This compares to the fourth quarter's $889 billion SAA and Q1 2005's $1.025 TN. What did they acquire? U.S. Corporate Bonds (including ABS) increased $398 billion SAA during the quarter, Security Repos $245 billion SAA, U.S. Corporate Equities $227 billion SAA, Treasury Securities $185 billion SAA, Agency & MBS $193 billion SAA, and Foreign Direct Investment $187 billion SAA. ROW holdings were up $1.246 Trillion over the past year (12%), with a two-year gain of $2.7 Trillion (31%). ROW holdings of U.S. financial assets have almost doubled in six years. Amazing.

As always, the Household (and Non-Profit) Balance Sheet offers Invaluable Bubble Economy Insight. Household Liabilities expanded at a 9.2% pace during the quarter, providing much of the liquidity fueling a 10.4% rate of Household Assets inflation. Yet in nominal dollars, Liabilities increased $273 billion to $12.199 TN, while Asset values surged six times this amount - $1.674 TN - to $66.03 TN. The upshot is a blockbuster $1.40 Trillion (10.7% rate) increase in Household Net Worth during the quarter to a record $58.83 Trillion. Over the past year, Household Liabilities increased $1.279 TN (11.7%), as Household Asset values surged $6.196 TN (10.4%). During this 12-month period Net Worth jumped $4.918 TN (10.1%), surpassing even 1999's record $4.812 TN increase. Household Net Worth has inflated a staggering $9.177 TN, or 20.6%, in just two years to approach 500% of GDP. There is no mystery surrounding the resilient consumer. Could the Bubble be any more conspicuous?

Examining Household Assets, it is worth noting that Real Estate values increased $529 billion during the quarter, a rate of 9.8%, to $22.177 TN, with a one-year gain of $2.819 TN, or 14.6%. Real Estate values were up $5.389 TN, or 32%, over two years and $8.158 TN, or 58%, over four years. Household Financial Asset holdings jumped $1.077 Trillion, or 11.1% annualized, to $39.81 TN during the quarter. The value of Financial Asset holdings gained $3.185 TN (8.7%) over the past year and $5.871 (17.3%) in two years.

Considering ongoing Credit Bubble Dynamics and resulting historic Credit Inflation, it was only a matter of time until the markets were hit with an inflation scare. Apparently it's finally arriving, with the Fed and global central bankers talking as if they have become (belatedly) keen to heightened risks. Markets are skeptical, and there are certainly sufficient crosscurrents to keep us all guessing. Global equity markets are unwinding, with most markets giving up the vast majority of earlier - in some cases spectacular - gains. A few markets now have 2006 declines. Are equity markets discounting an imminent economic downturn, or is it simply a case of speculative dynamics - the crowd all caught on the same side of crowded trades (global equities, emerging markets, commodities, the non-dollar "inflation trade," yield curve speculations, etc.)

I don't want to downplay the importance of a global equity bear market or the commodities downdraft. Yet, Global Credit Bubble analysis is today much more absorbed with the underlying conditions of international debt markets and Credit systems generally. In this regard, the week was notably "inconclusive." Despite the specter of a more hawkish sounding Fed and global central banker community, 10-year Treasury yields dipped this week and the dollar rallied sharply. In addition, emerging debt markets and currencies made it through the week not too deeply scarred - a circumstance of real significance if it holds.

It is certainly difficult to glean any indication of waning U.S. Credit system momentum in the Q1 Flow of Funds. While it is a safe bet to presume that mortgage debt growth has tapered off somewhat during the current quarter, this would be only moderate slowing from extreme levels. ABS issuance has likely slowed somewhat, yet Bank Credit maintains one heck of a head of steam. Corporate borrowings also demonstrated robust momentum during the first quarter, a dynamic buttressing corporate spending and hiring. I see no indication of waning Credit Availability for corporate America at the moment.

And, for now, Intransigent Current Account Deficits ensure an ongoing deluge of finance out upon the world. There is, however, the potential issue of this flow of liquidity being offset/interrupted by the collapse of leveraged trades in various global markets. To what degree derivatives and speculator leveraging fueled the first quarter global melt-up is unclear, although it certainly appears at this point to be a case of speculative leveraging fostering a disorderly spike in various markets followed by a price reversal and frantic speculative de-leveraging on the self-reinforcing downside.

It's a very tough call. Highly speculative/leveraged markets in sharp decline normally infer liquidity issues and the potential for dislocation. But these times are anything but normal. The spigot of liquidity gushing out of the U.S. Credit system remains wide open. Will global Credit systems continue relishing in excess liquidity, or will equity market and speculator vulnerability increasingly encroach upon lending and debt issuance. Can global central bankers talk domestic Credit systems into demonstrating some restraint? To be sure, we have precisely the backdrop for extraordinary uncertainty, continued market volatility, and global financial fragility. This is Macro Credit Analysis at its most challenging, fascinating, confounding, frustrating, and inevitably humbling best.

 


 

Doug Noland

Author: Doug Noland

Doug Noland
The Credit Bubble Bulletin
PrudentBear.com

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