Economic Structure and the "Liquidationist Thesis"

By: Doug Noland | Fri, Apr 4, 2008
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For the week, the Dow jumped 3.2% (down 4.9% y-t-d) and the S&P500 surged 4.2% (down 6.7%). The Morgan Stanley Cyclical index gained 5.7% (down 2.8%) and the Transports rose 4.7% (up 8.9%). The S&P Homebuilding index jumped 12.7%, increasing y-t-d gains to 24.6%. The Morgan Stanley Retail index rose 7.2% (unchanged). The Utilities increased 4.4% (down 7.7%), and the Morgan Stanley Consumer index added 1.7% (down 4.9%). The broader market rallied sharply. The small cap Russell 2000 gained 4.5% (down 6.8%) and the S&P400 Mid-Caps jumped 5.5% (down 5.0%). The NASDAQ100 rallied 5.6% (down 10.5%), and the Morgan Stanley High Tech index rose 5.1% (down 10.9%). The Semiconductors surged 8.8% (down 9.6%), the Street.com Internet Index 3.4% (down 8.8%), and the NASDAQ Telecommunications index 3.2% (down 8.3%). The Biotechs surged 7.4%, reducing y-t-d losses to 1.8%. The Broker/Dealers spiked 9.7% higher (down 20.2%), and the Banks rallied 4.8% (down 6.9%). Bullion declined $17.25, yet the HUI Gold index mustered a 0.3% gain (up 10.1%).

One-month Treasury bill rates jumped 12 bps this past week to 1.49%, while 3-month yields dipped 3 bps to 1.37%. Two-year government yields jumped 16.5 bps to 1.81%. Five-year T-note yields rose 10 bps to 2.61%, and ten-year yields added 3 bps to 3.47%. Long-bond yields dipped one basis point to 4.31%. The 2yr/10yr spread ended the week about 15 narrower at 165 bps. The implied yield on 3-month December '08 Eurodollars rose 7.5 bps to 2.31%. Benchmark Fannie MBS yields declined 8 bps to 5.17%. The spread between benchmark MBS and Treasuries narrowed 10 to 170 bps. The spread on Fannie's 5% 2017 note narrowed 5 to 64.5 bps and the spread on Freddie's 5% 2017 note narrowed 6 to 64 bps. The 10-year dollar swap spread declined 4.75 to 63. Corporate bond spreads were mostly narrower. An index of investment grade bond spreads narrowed 30 to 111 bps. Meanwhile, an index of junk bond spreads widened 6 to 638 bps.

Investment grade issuance included Oracle $5.0bn, Verizon $4.0bn, Citigroup $4.5bn, Enterprise Products $1.1bn, John Deere $1.0bn, Con Edison NY $1.2bn, Enbridge Energy $800 million, Metlife $750 million, Norfolk Southern $600 million, Questar Market Resources $450 million, Illinois Power $330 million, Ameren $300 million, Private Export Funding $300 million, and Ameren Union Electric $250 million.

Junk issuers included Ipalco Enterprises $400 million and Nustar Logistics $350 million.

Convert issuance this week included Alpha Natural Resources $250 million, SVB Financial $200 million and Alaska Communications Systems $110 million.

International dollar bond issuance included Rabobank $3.25bn, Vivendi $1.4bn, Ontario $1.0bn, Wesfarmers $650 million, and European Investment Bank $100 million.

German 10-year bund yields were little changed at 3.94%, as the DAX equities index rallied 3.1% (down 16.2% y-t-d). Japanese 10-year "JGB" yields increased 6 bps to 1.33%. The Nikkei 225 jumped 3.7% (down 13.2% y-t-d and 24.2% y-o-y). Emerging debt and equities were mostly stronger. Brazil's benchmark dollar bond yields sank 18 bps to 6.15%. Brazil's Bovespa equities index surged 6.3% (up 0.6% y-t-d). The Mexican Bolsa rose 5.0% (up 6.9% y-t-d). Mexico's 10-year $ yields sank 10 bps to 4.80%. Russia's RTS equities index added 0.5% (down 10.1% y-t-d). India's Sensex equities index dropped 6.3%, boosting y-t-d losses to 24.4%. China's Shanghai Exchange recovered 1.0% this week, with 2008 losses at 34.5%.

Freddie Mac 30-year fixed mortgage rates gained 3 bps this week to 5.88% (down 29bps y-o-y). Fifteen-year fixed rates jumped 8 bps to 5.42% (down 45bps y-o-y). One-year adjustable rates declined 5 bps to 5.19% (down 25 bps y-o-y).

Bank Credit declined $30.4bn (week of 3/26) to $9.535 TN (previous weeks revised higher). Bank Credit has now increased $322bn y-t-d, or 14.0% annualized. Bank Credit posted a 36-week surge of $891bn (14.9% annualized) and a 52-week rise of $1.185 TN, or 14.2%. For the week, Securities Credit declined $5.9bn. Loans & Leases dropped $24.5bn to $6.932 TN (36-wk gain of $607bn). C&I loans rose $8.2bn, with one-year growth of 23%. Real Estate loans slipped $2.8bn. Consumer loans were little changed, while Securities loans declined $14.3bn. Other loans dropped $15.4bn. Examining the liability side, Large Time Deposits declined $20.9bn, while Other jumped $58.8bn.

M2 (narrow) "money" supply surged $32.2bn to a record $7.721 TN (week of 3/24). Narrow "money" has now expanded $258bn y-t-d, or 15.0% annualized, with a y-o-y rise of $536bn, or 7.5%. For the week, Currency increased $1.4bn, and Demand & Checkable Deposits jumped $10.4bn. Savings Deposits rose $5.1bn, and Small Denominated Deposits added $0.8bn. Retail Money Fund assets advanced $14.4bn.

Total Money Market Fund assets (from Invest Co Inst) declined $7.6bn last week to a record $3.498 TN, while posting a y-t-d gain of $385bn, or 49.4% annualized. Money Fund assets have posted a 36-week rise of $914bn (51% annualized) and a one-year increase of $1.066 TN (43.8%).

Total Commercial Paper declined $5.1bn to $1.828 TN. CP has declined $396bn over the past 34 weeks. Asset-backed CP increased $8.3bn (34-wk drop of $409bn) to $786bn. Over the past year, total CP has contracted $213bn, or 10.4%, with ABCP down $295bn, or 27.3%.

Fed Foreign Holdings of Treasury, Agency Debt last week (ended 4/2) jumped $21.8bn to a record $2.206 TN. "Custody holdings" were up $149.7bn y-t-d, or 27% annualized, and $313bn year-over-year (16.6%). Federal Reserve Credit increased $6.1bn to $876.6bn. Fed Credit has expanded $2.1bn y-t-d, while having increased $23.3bn y-o-y (2.7%).

Global Credit Market Dislocation Watch:

March 28 - Financial Times (Paul J Davies): "Global debt issuance collapsed in the first quarter as the credit crunch took its toll on new deals in all sectors... Total debt market volumes were $1,030bn in the first quarter, a 48% drop compared with the same quarter a year ago, while total syndicated loan market volumes were $599bn, a 47% drop versus the same period last year, according to Dealogic... The numbers illustrate how the withdrawal of liquidity from the world's debt markets in the wake of the turmoil that began in the US mortgage markets has affected everything from the safest corporate borrower to the most risky private equity backed leveraged buy-out deal. Structured finance markets, which cover mortgage-backed bonds and complex products such as collateralised debt obligations, unsurprisingly suffered the worst contractions. Globally, new deal volumes of just $81.5bn were 89% less than the first quarter of 2007. This volume was the lowest since the first quarter of 1996."

April 1 - Reuters (Mathieu Robbins): "Global mergers and acquisitions slumped by almost a third in the first quarter, according to... Thomson Financial... Global M&A volumes fell 31% to $661 billion in the first quarter of 2008... Buyout firms led the collapse in deals as their buying power evaporated and they saw a 77% fall in acquisitions after 6 years' growth."

April 1 - The Wall Street Journal (Randall Smith): "The turmoil in debt markets took a huge bite out of Wall Street sales of stocks and bonds in the first quarter... Global first-quarter underwriting volume tumbled 45% from a year earlier to $1.27 trillion, and fees collected by Wall Street investment banks fell 47% to $5.8 billion, according to Thomson Financial... It was the third consecutive quarterly total below $1.5 trillion. In 2006 and the first half of 2007, the quarterly average was $2.1 trillion. Both first-quarter totals were the lowest in five years... 'As quarters go, it's as tough as it gets,' said Matthew Johnson, head of global equity syndicate at Lehman Brothers Holdings Inc... The first-quarter volume for new junk-bond issues was the slowest first quarter since 1995...The same headwinds cut the volume of buyout loans by 88% to just $5.4 billion, according to Reuters Loan Pricing Corp. Overall loan volume fell by 55% to $166 billion..."

April 1 - The Wall Street Journal (Matthew Karnitschnig and Dana Cimilluca): "Prepare for more pain. That is the message circulating through Wall Street's mergers-and-acquisitions departments following the biggest quarterly decline in six years in the dollar value of deals announced... The first quarter met the predictions of the most pessimistic forecasters. The value of all global deals fell 24% from the first quarter of 2007 to $736 billion... In the U.S., deal volume fell 41% to $204 billion. In Europe, the drop was less severe, with a 17% decline to $305 billion..."

March 31 - Reuters (Dena Aubin): "U.S. investment-grade corporate bond issuance plunged 31% in the first quarter to $185 billion as convulsions from a global credit crisis hurt demand, Thomson Financial reported... Junk bond issuance plummeted by 85% to $5.9 billion, down from $38.5 billion a year earlier... The slump followed a record year for high-grade corporate issuance, with $978 billion in sales, including $269 billion in the first quarter of 2007."

April 1 - Reuters: "U.S. mortgage-backed securities issuance fell by more than 75% in the first quarter of 2008 from the same period a year earlier... Thomson Financial said U.S. mortgage-backed securities issuance totaled $61.0 billion in the first quarter... The period marked the slowest quarter for issuance of U.S. MBS since the fourth quarter of 2000..."

March 31 - Reuters (Nancy Leinfuss): "U.S. issuance of asset-backed securities tumbled 83% in this year's first quarter as investors fled the risky subprime mortgage segment that fueled a global credit crisis in 2007. ABS issuance slumped to $54.7 billion in this year's first quarter compared with the $323.3 billion sold in the year-ago quarter, Thomson Financial said..."

April 1 (Reuters) - U.S. municipal bond issuance fell 23% in the first quarter from a year ago as a global credit crunch made it harder for states and cities to refinance old debt and hurt demand, Thomson Financial said... U.S. states, cities and counties sold $81.6 billion of bonds in the first quarter to pay for new schools, road maintenance and other public projects compared to $106.5 billion in the same period in 2007..."

March 31 - Bloomberg (Jeremy R. Cooke): "U.S. municipal bonds are off to their worst annual start in 12 years... Tax-exempt bonds fell 1% for the year through March 28, their worst first-quarter performance since a 1.25% decline in 1996..."

April 2 - Financial Times (Paul J Davies): "UBS's mind-boggling $19bn first-quarter writedown...came as news emerged of the radical strategies being discussed at the highest levels of the Financial Stability Forum in Rome to bring a halt to the credit crisis. Both stories show that the markets for bonds backed by mortgage and other debts are part of a global game of chicken involving central banks on one side and investors with cash to put to work on the other. Who blinks first in this game - and, more important, when - will have a significant impact on the health of banks, housing markets and potentially the biggest economies of the world. No investor wants to put money into such debt until these markets look as if they are approaching - or, better, have hit - the bottom... There are even hints that taxpayers in the US could ultimately fund a buyer-of-last-resort effort..."

April 4 - Bloomberg (Christine Richard): "Fitch Ratings cut the rating on MBIA Inc.'s insurance unit to AA from AAA, saying the bond insurer no longer has enough capital to warrant the top ranking. MBIA, the world's largest financial guarantor, would need as much as $3.8 billion more in capital to deserve an AAA...Fitch said..."

April 4 - Bloomberg (Neil Unmack and Shannon D. Harrington): "Gordian Knot Ltd.'s $40 billion Sigma Finance Corp. had its Aaa credit rating cut five levels by Moody's...as the value of its assets fell, increasing the risk the credit fund may have to be wound down... Sigma is the last and largest of the companies that financed themselves in the short-dated commercial paper markets to buy longer-dated assets."

April 3 - Financial Times (Ralph Atkins and David Oakley): "The European Central Bank launched its first six-month refinancing operation yesterday - but the action failed to ease tensions in the money markets as concerns over further bank writedowns and liquidity weighed on sentiment. The auction of €25bn ($39bn) in six-month funds marked a significant extension of the ECB's armoury in its attempts to relieve pressures on short-term interbank rates... The ECB allotted the cash at an average rate of 4.61%..."

March 31 - Bloomberg (Katherine Burton and Neil Roland): "Citigroup Inc.'s six municipal-bond hedge funds, which the bank bailed out with $600 million earlier this month, have fallen to values ranging from 10 cents to 60 cents on the dollar, a person familiar with the situation said. The funds, sold under the names ASTA and MAT, had $15 billion in assets and about $2 billion in capital earlier this month... 'There has been some significant decline in value, and some funds that suffered pretty substantial losses,' said Alex Samuelson, a spokesman for Citigroup's Smith Barney unit... 'There has been a historic dislocation in the credit markets.'"

March 31 - Bloomberg (Ambereen Choudhury): "Mergers and acquisitions bankers suffered a 35% drop in fees during the first quarter, just weeks after cashing bonuses from a record year. Advisory fees fell to about $8.7 billion from $13.4 billion in the first three months of 2007, data compiled by analysts at...Freeman & Co. show."

April 2 - Bloomberg (Sarah Mulholland): "Sales of bonds backed by student loans have dropped 65% this year compared with the first quarter of 2007 as lenders exit the business, according to a report from UBS AG. Investor demand for student-loan bonds has dried up..."

April 3 - Market News International: "The following are highlights from the Office of the Comptroller of the Currency's fourth-quarter 2007 report on bank trading and derivatives released Wednesday: Insured U.S. commercial banks lost $9.97 billion trading cash and derivative instruments in the fourth quarter, down $12.3 billion from third quarter revenues of $2.3 billion. For the full year, banks recorded $5.5 billion in trading revenues, down $13.3 billion from the record of $18.8 billion in 2006..."

April 1 - Bloomberg (Cecile Gutscher and Neil Unmack): "Prices for high-yield, high-risk loans in Europe dropped by a record the first quarter, causing bigger losses for banks and hedge funds. Deutsche Bank AG, Germany's largest bank, announced its steepest writedown at 2.5 billion euros ($3.9bn)... UBS AG, the European bank with the highest losses from the U.S. subprime crisis, reported a second straight quarterly loss today after an additional $19 billion of writedowns. Investors have abandoned the market for leveraged loans on concern corporate defaults will rise because of higher borrowing costs triggered by the U.S. subprime mortgage crisis..."

March 31 - Market News International: "The [European] new issues market is seeing the end of the first quarter on a quiet note and, not surprisingly, reports this morning point to the slowest start for the market since 2002. Sales have reportedly totalled E137 billion in Q1 versus E296 billion last year, according to data compiled by Bloomberg, with no high yield or junk bonds issued since July last year."

April 1 - Reuters: "Australian debt issuance fell 69% in the first quarter of 2008 compared with the same period the previous year, according to Thomson data, as the global credit crisis made life tough for borrowers."

Currency Watch:

April 1 - Financial Times: "Sick as a sovereign wealth fund: how better to describe an investor who has done a very large and exceptionally badly performing deal. In the space of just a few months, SWFs from Asia and the Middle East have lost billions of dollars by recapitalising western banks. Such losses, and the rapid fall in the US currency, increase the risk that foreign investors will lose their appetite for dollar assets. Abu Dhabi's implied capital loss on its investment in Citigroup is about $2.5bn since last November. December's investment in Merrill Lynch by Temasek of Singapore is off about $600m. Even that looks a lot healthier than its compatriot fund GIC, which alongside a still unnamed Saudi investor is down by about $5.5bn on its investment in UBS of Switzerland. Those losses are dwarfed, however, by those that central banks are making on their dollar reserve assets after repeated cuts in US interest rates... There are signs that some foreign investors are losing patience: South Korea's $220bn National Pension Service has suggested it may sell US Treasuries and buy higher-yielding European government debt. Rejection of dollar assets is dangerous for the US. A short-run risk is that US companies lose an advantage in international commerce: the willingness of their trading partners to price in dollars and so bear all of the currency risk."

April 2 - Financial Times (Richard Lapper): "Migrant workers are choosing to move to Europe, Australia or Canada instead of the US in order to protect the purchasing power of the money they send home to their families, according to one of the world's leading experts on remittances. The shift is a result of sharp falls in the value of the US dollar against other international currencies... 'We are seeing workers from Bangladesh, Nepal and especially the Philippines choosing destinations where they'll get paid in stronger currencies,' Dilip Ratha, head of the World Bank's remittances and migration unit, told the Financial Times. Mr Ratha said the trend was especially notable among skilled workers, such as doctors, nurses and information technology specialists."

The dollar index rallied 0.5%, ending the week at 72.02. For the week on the upside, the Brazilian real increased 3.0%, the South African rand 2.8%, the Canadian dollar 1.7%, the South Korean won 1.5%, and the Australian dollar 1.0%. On the downside, the Japanese yen declined 1.8%, the Swiss franc 1.3%, the Danish krone 0.4%, the Singapore dollar 0.4%, and the Euro 0.4%.

Commodities Watch:

April 3 - Bloomberg (Jeff Wilson): "Corn rose above $6 a bushel for the first time ever in Chicago as cool, wet weather in the Midwest threatens to saturate fields and delay planting in the U.S., the world's largest producer and exporter... Corn futures for May delivery rose 4.25 cents... Most-active futures have risen 73% in the past year on record world demand for corn used to feed livestock and to make ethanol."

April 4 - Financial Times (Javier Blas): "Rising food prices could spread social unrest across Africa after triggering riots in Niger, Senegal, Cameroon and Burkina Faso, African ministers and senior agriculture diplomats have warned. Kanayo Nwanze, the vice-president of the United Nations' International Fund for Agriculture, told a conference in Ethiopia that food riots could become a common feature, particularly after the price of rice has doubled in three months. 'The social unrest we have seen in places such as Burkina Faso, Senegal or Cameroon may become common in other places in Africa,' Mr Nwanze said. He added that some African countries would struggle with rice prices, which last week hit a high of $760 a tonne, up from $373 a tonne in early January..." 'Looking at past experiences, whenever we have seen crisis in one area [it] is a signal for other [countries] to set safety valves [to avoid propagation],' he said."

April 2 - Financial Times (Alan Beattie): "The rush across the developing world to stop food leaving the region is a perfect example of the old adage: be careful what you wish for. For years, governments of poor countries, and their champions in the rich world's development campaigns such as Oxfam, have been complaining bitterly that farm-gate prices have been driven down by overproduction and dumping by US and European farmers. Now, food prices are rising. But the governments involved, rather than celebrating, are scrambling to stop their farmers benefiting too much at the expense of their urban consumers. In country after country, angry city-dwellers have poured on to the streets complaining about the unaffordability of food. Mexico City has witnessed 'tortilla riots' because of the high price of maize, and thousands of Indonesians have protested over shortages of soy beans. The problems are particularly salient with basic grains such as rice and wheat that provide the staple food for many developing countries but in which there is a big international market where farmers can seek out the highest price."

April 2 - Financial Times (Alan Beattie): "Governments across the developing world are scrambling to boost farm imports and restrict exports in an attempt to forestall rising food prices and social unrest. Saudi Arabia cut import taxes across a range of food products on Tuesday, slashing its wheat tariff from 25% to zero and reducing tariffs on poultry, dairy produce and vegetable oils. On Monday, India scrapped tariffs on edible oil and maize and banned exports of all rice except the high-value basmati variety, while Vietnam, the world's third biggest rice exporter, said it would cut rice exports by 11% this year. The moves mark a rapid shift away from protecting farmers, who are generally the beneficiaries of food import tariffs, towards cushioning consumers from food shortages and rising prices."

Gold declined 1.9% to $913 and Silver 1.0% to $17.56. May Copper rose 3.2%. May Crude added 52 cents to $106.14. April Gasoline gained 1.5%, while April Natural Gas dropped 4.8%. May Wheat dipped 1.5%. The CRB index added 0.1% (up 10.1% y-t-d). The Goldman Sachs Commodities Index (GSCI) rose 0.3% (up 12.8% y-t-d and 47.5% y-o-y).

China Watch:

April 2 - Bloomberg (Dune Lawrence): "Chinese consumers, facing the fastest inflation in 11 years, are finding that the rising cost of living has reached into the afterlife as buying a graveyard plot becomes more expensive than a home. Five of the capital's major cemeteries charge as much as 30,000 yuan ($4,273) per square meter for a standard plot, compared with an average of 20,000 yuan per square meter for an apartment in the city center...China Daily reported today. Land scarcity, real-estate speculation and rapid urbanization are fueling soaring prices for graveyard plots as an increasingly affluent population seeks to provide deceased loved ones with a more lavish send-off."

March 30 - Bloomberg (William Bi): "Pork prices in China, the world's biggest producer and consumer of the meat, may stay at the current near-record high levels for another year, Shanghai JC Intelligence Co. said. Higher costs of feed and piglets will slow herd expansion by farmers... China's wholesale pork prices almost doubled in the past year after diseases and the worst snowstorms in decades in southern China killed thousands of hogs. High meat costs thwart government efforts to maintain social stability and ease the fastest inflation in over a decade. 'Some rural residents have been forced to cut back their meat consumption by as much as two-thirds,' Rang [Shanghai JC Intelligence analyst) said... 'Too many negative factors challenge the confidence of farmers in investing in hogs.'"

April 1 - Bloomberg (Wendy Leung and Theresa Tang): "Hong Kong rice prices may surge 30% in the next two months, an industry body said, as shoppers emptied supermarket shelves of the grain. The price of imported rice from Thailand has already risen as much as 20% since January..." 'To be short of money is one thing, but running short of rice is a big deal for the Chinese,' said Chip Tsao, a Hong Kong commentator and radio talk-show host. 'Chinese people have been living under the shadow of famine for so long. It's a throwback to Chinese history, going back 2,000 years.'"

April 1 - Bloomberg (Nipa Piboontanasawat): "China's manufacturing activity surged last month after the end of disruptions from the worst snowstorms in half a century, two surveys showed. The CLSA Purchasing Managers' Index rose to 54.4, the highest level in five months, from 52.8 in February..."

Japan Watch:

April 1 - Bloomberg (Jason Clenfield): "Confidence among Japan's largest manufacturers fell to a four-year low as Toyota Motor Corp. and Canon Inc. struggled with the yen's gain and the U.S. slowdown."

India Watch:

April 4 - Bloomberg (Anoop Agrawal): "India's foreign-exchange reserves rose by $4.5 billion in the week ended March 28 to a record $309.2 billion."

April 4 - Bloomberg (Kartik Goyal): "India got a record $20.1 billion of foreign direct investment in the 11 months to Feb. 29, a jump of 70% from a year earlier. 'This is the highest foreign direct investment into equity in the country during any year,' the government said..."

April 4 - Bloomberg (Kartik Goyal): "India's inflation accelerated to the fastest pace in more than three years, underscoring a threat from rising food prices... Wholesale prices rose 7% in the week ended March 22 from a year earlier..."

April 4 - Bloomberg (Jean Chua): "Indian Trade Minister Kamal Nath said the government will take the 'strongest possible measures' against hoarding of food, steel and cement to contain inflation... 'We will not hesitate to take the strongest possible measures including using some of the legal provisions that we have against hoarding.'"

March 31 - Bloomberg (Kartik Goyal): "Prime Minister Manmohan Singh will chair an emergency cabinet meeting on prices of steel, wheat and other essential goods as inflation at a 13-month high threatens the government's bid for re-election. The cabinet will also discuss cement, edible oils and food articles including rice tonight, Trade Minister Kamal Nath said. The government, willing to settle for slower growth to check prices, has cut import duties on food and is considering other fiscal measures to rein in inflation. Bonds headed for their biggest monthly loss since June 2006."

April 1 - Bloomberg (Kartik Goyal): "India's exports of gems, clothes and other manufactured products grew 35.3% in February from a year earlier... Shipments, which account for about 15% of India's $906 billion economy, rose to $14.23 billion..."

Asia Bubble Watch:

April 3 - Financial Times: "Faced with the prospect of street riots, it is no wonder emerging market governments are opting to shoulder some of the burden of more expensive food. From India to Egypt, governments are slashing import tariffs on food and curbing exports, as well as cranking up subsidies. Longer term, however, the side effects of this largesse are ugly. Forgoing revenues and footing the bill for subsidies takes a toll on national budgets. India, for example, spent $600m on rice and wheat subsidies in 2004-05... In the Philippines...the rice subsidy is expected to reach $520m this year... Indonesia will cough up a whopping $2.2bn for food subsidies..."

April 4 - Bloomberg (Clarissa Batino and Karl Lester M. Yap): "Philippine inflation accelerated at the fastest pace in 20 months in March as food and fuel prices surged... Consumer prices increased 6.4% from a year earlier..."

April 1 - Bloomberg (Aloysius Unditu and Arijit Ghosh): "Indonesia's inflation accelerated at the fastest pace in 18 months in March as food and energy prices rose, reducing room for the central bank to cut interest rates to boost economic growth. Consumer prices increased 8.2% from a year earlier..."

Unbalanced Global Economy Watch:

April 2 - Bloomberg (Jennifer Ryan): "British customer-owned lenders approved fewer loans for house purchase in February, a report by the Building Societies Association said. Mortgage approvals fell 31% from a year earlier..."

March 31 - Bloomberg (Fergal O'Brien): "European inflation accelerated to the fastest pace in almost 16 years, making it harder for the European Central Bank to cut interest rates as a global credit squeeze saps confidence among executives and consumers. Consumer-price inflation in the euro area accelerated to 3.5% this month, the highest rate since June 1992... The ECB is refusing to follow the U.S. Federal Reserve and reduce interest rates in response to a global crisis as food and energy prices fuel inflation."

April 4 - Bloomberg (Joshua Gallu): "Swiss inflation accelerated more than expected in March to the fastest pace in more than 14 years as prices for energy and food climbed to records. The inflation rate rose to 2.6% from 2.4%... That's the highest level since October 1993."

March 31 - Bloomberg (Joshua Gallu): "Switzerland's current account surplus widened last year as global growth and a weaker franc fueled demand for exports, the central bank said. The surplus in the current account...reached an estimated 85.6 billion francs ($86.2 billion) in 2007..."

March 31 - Bloomberg (Flavia Krause-Jackson): "Italy's inflation rate in March rose to the highest in more than 11 years... Consumer prices calculated by European Union standards rose 3.6% from a year earlier..."

March 31 - Bloomberg (Jacob Greber): "An index measuring Australian inflation held at the fastest annual pace in almost two years in March, reinforcing the central bank's decision to increase borrowing costs to the highest in 12 years. Consumer prices surged 4% from a year earlier..."

Bursting Bubble Economy Watch:

April 3 - Bloomberg (Hugh Son): "Consumers fell behind on car, credit-card and home-equity loans at the highest level in 15 years during the fourth quarter, another sign the U.S. economy is slowing, according to an American Bankers Association survey. Payments at least 30 days past due increased across all eight categories of loans tracked, the Washington-based group said today in a statement. Late loans climbed 21 basis points to 2.65% of all accounts in a consumer-loan index... 'The rise in consumer credit delinquencies is consistent with a rapidly slowing economy,' ABA chief economist James Chessen said... 'Stress in the housing market still dominates the story, but it's a broader tale.'"

April 4 - Bloomberg (Bill Rochelle and Bob Willis): "The jump in March bankruptcy filings is another indication the U.S. economy is in recession, led by states where the housing boom turned to bust. The more than 90,000 bankruptcy filings in March were the highest since insolvency laws became more restrictive in October 2005..."

April 3 - The Wall Street Journal (Jacqueline Palank): "New data show that U.S. businesses are seeking bankruptcy-law protection at a faster rate than consumers this year, amid a global credit crunch that has hurt businesses and individuals alike. From January through March, some 13,155 businesses filed for bankruptcy... That's an increase of almost 45% from the 9,103 business bankruptcy filings in the first three months of 2007. The pace for businesses exceeds the growth rate of consumer bankruptcy filings, which have climbed to the highest level in more than two years. During the first quarter, consumer bankruptcy filings increased 27% from the year-earlier period... 'The canary in the mine is consumer bankruptcies,' Jack Williams, a resident scholar at the American Bankruptcy Institute... 'As they start to increase, that is usually an indication that small-to-medium businesses will follow.'"

California Watch:

April 2 - Associated Press: "Wachovia Corp. (WB) is considering ending its infamous Pick-A-Payment mortgage loans in 17 California counties that have been hit hard by falling home prices and rising foreclosures."

MBS/ABS/CDO/CP/Money Funds and Derivatives Watch:

April 3 - Bloomberg (Kathleen M. Howley): "Home prices declined in 21 U.S. cities in January, led by Sacramento and Las Vegas, as banks sold foreclosed homes at bargain prices. The price per square foot in Sacramento dropped 28% to $166 from a year earlier, according to...Radar Logic Inc.... Las Vegas dropped 25% to $137 a square foot... The median price of single-family existing home dropped 8.7% in February from a year earlier, the most in four decades of record keeping, the National Association of Realtors said... 'Like homebuilders who feel pressure to get rid of inventory quickly, many banks and lenders experience the same pressure when dealing with homes from foreclosure,' and decide to sell at below-market prices, the report said. That leads to further declines in real estate values."

April 2 - Financial Times (Paul J Davies): "The financial instrument (CDOs) that was one of the biggest drivers of the explosive growth of mortgage-related debt markets in recent years faces near certain extinction... The complex debt securities used to repackage the less attractive parts of asset-backed bonds are likely to disappear entirely as a result of the collapse of the credit market bubble, according to a report from the Bank for International Settlements."

April 1 - Bloomberg (Jody Shenn): "Securities backed by U.S. commercial mortgages, Alt-A and prime home loans fell the most ever last quarter, as the credit-market slump deepened and concern grew that banks faced increased writedowns on the debt. AA rated commercial-mortgage securities tumbled 18% and A rated bonds fell 22% in the period through March 31, according to Lehman Brothers..."

March 31 - Bloomberg (Josh P. Hamilton and Erik Holm): "Defaults on privately insured U.S. mortgages rose 38% in February for the 14th straight month as record U.S. foreclosures forced the industry to reimburse lenders for more bad loans. Insured borrowers falling more than 60 days late on payments rose to 60,911 last month..."

Real Estate Bubble Watch:

April 2 - Bloomberg (Sharon L. Lynch): "Manhattan apartment sales plunged the most in 18 years last quarter as buyers faced the prospect of a recession and job cuts at Wall Street securities firms. First-quarter sales fell 34% from a year earlier and inventory rose 4.6% to 6,194 units... The median price of a Manhattan co-operative apartment or condominium increased 13.2% to a record $945,000."

March 31 - Bloomberg (Sharon L. Lynch): "New York City's residential real estate market is showing the first signs of fallout as U.S. banks and securities firms cut the most jobs in seven years. Manhattan apartment sales fell in January and February from a year earlier and new properties came to the market at the fastest pace since at least 2000... Transactions slid 6.4% to 3,250, while the number of condominiums, co- operatives and townhouses for sale at the end of last month climbed to 6,225, 15% more than at the start of the year."

April 4 - Bloomberg (Hui-yong Yu): "Home sales in Seattle fell 29% in March and listings jumped 61% from a year earlier, as the U.S. credit crunch and a drop in consumer confidence slowed sales in one of the country's strongest housing markets, according to the Northwest Multiple Listing Service."

April 1 - Financial Times (Daniel Pimlott): "The US housing slump has arrived at the Hamptons, summer playground of the Manhattan elite. In a sign that falling prices and home sales gluts are no longer limited to the nation's declining rust-belt cities or bubble markets, prices for gilt-edged properties in East Hampton and Southampton have fallen sharply. The Long Island resort towns, among the wealthiest and most well-connected in the US, experienced a boom between 1998 and 2007 when home values quadrupled. 'The downturn has caught up with the Hamptons,' said George Simpson, who runs Suffolk Research... The three-month running median sales price of single-family homes in the two towns fell 19.2% to $638,600 between December and February..."

April 3 - Bloomberg (Peter S. Green and Hui-yong Yu): "The vacancy rate for U.S. office buildings rose in the first three months of the 2008, advancing for the second consecutive quarter, Reis Inc. said. The vacancy rate rose to 12.8%, from 12.6% in the fourth quarter... The vacancy rate peaked at 16.9% in the fourth quarter of 2003... 'Overall, the slowdown in the office market is of greatest concern for recent buyers who may be depending on gains similar to what we observed in 2006 and 2007 to meet targets for debt service coverage and to ensure refinancing requirements are met,' Sam Chandan, chief economist of Reis, said..."

April 3 - The Wall Street Journal (Alex Frangos): "Businesses are pulling back on renting office space, a signal that the economic bad times are hitting landlords and that business hiring is likely to remain weak. Demand for office space dropped for the first time since the economy emerged from its downturn earlier in the decade... 'Any sense of immediacy among companies to sign a lease was put on the back burner,' says Sam Chandan, chief economist for Reis. 'What became the dominant issue is the uncertainty in the overall economic outlook.'"

April 1 - Dow Jones (Dawn Wotapka): "Government agencies and home owners aren't the only ones afraid of the foreclosure surge sweeping the nation. New home builders are also jittery. For them, foreclosures are a one-two punch. They flood the market with unsold homes selling for a song - further depressing prices and stiffening competition - while ripping buyers from the market. Lehman Brothers estimates two million foreclosed homes will return to the market in 2008 and 2009..."

April 4 - Bloomberg (Dan Levy): "The average asking rent for U.S. apartments rose 1% in the first three months of 2008, the 24th consecutive quarterly gain, as the U.S. housing slump deterred people from buying homes, according to...Reis Inc."

GSE Watch:

April 3 - Financial Times (Saskia Scholtes): "April Fannie Mae and Freddie Mac and other government-sponsored mortgage companies have become the backbone of the troubled US mortgage market as purely private sources of finance have all but dried up. Fannie, Freddie and the Federal Home Loan Banks, a network of bank co-operatives founded during the Great Depression, provided 90% of the financing for new mortgages at the end of 2007, according to the Office of Federal Housing Enterprise Oversight... The increasing role of the...GSEs as they are known, reverses years of declining market share... Availability of fresh mortgage funding is seen as crucial to provide support for US house prices, which have fallen sharply from their peak against a record pace of foreclosures and the resulting credit squeeze among private lenders. Fannie and Freddie accounted for a record 75% of new mortgage financing at 2007's end - twice the share they held at the end of 2006, when the private-label mortgage securitisation industry was booming... The FHLBs have pumped hundreds of billions of dollars into the mortgage industry in the form of advances against mortgage collateral. They made $875bn of such loans to depository institutions in 2007, up 36% on the previous year."

Muni Watch:

April 4 - Bloomberg (Jeremy R. Cooke): "The collapse of the $330 billion auction-rate securities market has brought debt sales by U.S. public student-loan agencies to a halt. No municipal bonds backed by student loans were sold in the first quarter, the first time that happened in almost 40 years... Public lenders from Texas to Pennsylvania to Illinois relied on auction-rate bonds to raise money so they could make or buy student loans."

Speculator Watch:

April 3 - Financial Times (James Mackintosh): "Hedge funds are still reeling after banks unexpectedly pulled credit lines and demanded more security against loans, forcing firesales and heavy losses. Now they face a new threat: investors are abandoning them, raising the risk that the funds will have to sell assets at any price to raise the cash to meet withdrawals. So far redemptions are mainly in out-of-favour sectors such as credit funds, small-cap specialists and event-driven funds, which include activists, along with poor performers unexpectedly hurt by the credit squeeze. But a series of big funds have already been forced to react, restricting withdrawals or restructuring, and more are thought to be considering changes. 'There are two ways you get squeezed running a hedge fund,' says one large investor in the industry. 'One is that you can't get finance from your prime broker. The other is that the clients take their money away and you can't get enough liquidity [cash] to meet the redemptions.'"

April 1 - Bloomberg (Tom Cahill): "Hedge funds had their worst quarterly performance in almost six years in the first three months of 2008, Hedge Fund Research data showed. The funds dropped 2.83% this year through March 28... That would be the biggest drop in a quarter since a 3.85 percent decline for March to June 2002 for HFR's Weighted Composite Index... 'Hedge funds have not covered themselves in any form of glory in this quarter,' said Paul Ross, chief executive officer of Iveagh Ltd... 'They've been extremely difficult markets for hedge funds in general.'"

April 3 - Dow Jones (Margot Patrick): "Two U.K. hedge fund managers have taken measures to deal with heavy redemption requests, as investors pull money from funds relying on mergers and acquisitions and other major corporate actions. Tisbury Capital Management LLP secured approval this week for a plan that will let investors cash out $1.2 billion of its event-driven fund's $2 billion capital, while Polygon Investment Partners told investors it would look to improve its redemption terms after an increase in exit notices this month at its $8 billion Polygon Global Opportunities Fund."

March 31 - The Wall Street Journal (Joseph Checkler): "New York activist hedge fund Pardus Capital Management LP is halting investor redemptions indefinitely at a time when many of its holdings are plummeting in value... Pardus, which doesn't use leverage, is down 40% from its high-water mark in early 2007, said a person with knowledge... 'The actions we have taken will allow us to protect the funds and their investors from the external short-term pressure of the broader financial markets and focus on realizing value on our portfolio companies for investors over an extended period of time,' Pardus said."

April 2 - Financial Times (James Mackintosh): "The $1.4bn flagship hedge fund of London's Plexus Partners has lost more than a third of its value this year after arbitrage trades in the credit markets went spectacularly wrong. Plexus...fell by slightly more than 35% when it was caught out by perverse moves in the 'basis trade', a popular arbitrage between the price of derivatives and the underlying corporate credits, investors said. The problems at Plexus follow disastrous losses by several relative value funds, which had bet on similar trades in government bonds and futures, which went wrong when forced selling by some funds led to unexpected price moves. 'When the basis gapped out, Plexus got their head handed to them,' said one investor."

April 1 - Bloomberg (Tom Cahill and Katherine Burton): "Stock hedge funds, unsure about which direction the markets would move, sat on a record amount of cash as the industry headed for its biggest quarterly decline in almost six years. Equity managers, who oversee about one-third of the $1.9 trillion in hedge funds, held an estimated $90 billion of cash in January, a hoard that dropped to $64.8 billion the next month, according to data compiled by Merrill Lynch analyst Mary Ann Bartels."

April 3 - Bloomberg (Tomoko Yamazaki): "An increasing number of hedge fund managers in Asia are making loans to small companies as they search for more stable returns, according to the chairman of Singapore's hedge fund lobby. As much as 25% of funds managing a combined $200 billion in Asia extended such loans last year, said Peter Douglas, chairman of the Singapore chapter of Alternative Investment Management Association, in an interview yesterday. That's up from less than 10% in 2006, he said."

Crude Liquidity Watch:

March 31 - Bloomberg (Simon Clark): "From his air-conditioned office on the seventh floor of one of Dubai's twin Emirates Towers, Pakistani tycoon Arif Naqvi surveys the metropolis that made him rich. To Naqvi's left, about 50 skyscrapers rise above the desert city, where thousands of cranes work on $200 billion of real estate projects, according to HSBC Holdings Plc... 'I couldn't have done a 10th of what I've done if it hadn't been for Dubai,' says Naqvi, 47, who moved to Dubai in 1994 with $50,000 of savings and now runs buyout firm Abraaj Capital Ltd. His $5 billion of assets include stakes in Turkish hospitals, Saudi Arabian pharmacies and a Jordanian aircraft repair company. Successful investments include Dubai's Arabtec Holdings PJSC, which is building the world's tallest skyscraper, Burj Dubai, on a $20 billion construction site not far from Naqvi's office."

March 31 - Bloomberg (Matthew Brown): "Central bankers in the Middle East are proving the U.S. dollar's decline to record lows is a small price to pay for the loyalty -- and oil money -- of their biggest Western ally. The governor of the Saudi Arabian Monetary Authority, Hamad Saud al-Sayari, called the dollar a 'good buy' when it fell to $1.55 a euro on March 12. The United Arab Emirates, conceding to U.S. pressure, will keep the dirham tied to the currency, a U.A.E. central bank official speaking on condition of anonymity said March 17."

Economic Structure and the "Liquidationist Thesis":

Between Secretary Paulson's proposal Monday for financial regulation overhaul; Wednesday's testimony by Federal Reserve Chairman Bernanke on housing and Bear Stearns before Congress's Joint Economic Committee; the appearance Thursday by Bernanke, New York Fed President Timothy Geithner, Treasury under-secretary Robert Steel, and SEC Chairman Christopher Cox before the Senate Banking Committee; and the later appearance before the same committee by JPMorgan's CEO Jamie Dimon and Bear Stearns' CEO Alan Schwartz - there was ample material this week for an entire book delving into critical financial issues of our day. I'll attempt a couple pages worth.

From one of Dr. Bernanke reponses: "One of the prevailing theories at the time of the Depression was the so-called 'liquidationist thesis" - who said basically "let's let the system return to normal. Let's liquidate banks; let's liquidate labor." This was Andrew Mellon, the Treasury Secretary. It was partly on the basis of that theory that the Federal Reserve stood by and let a third of the banks in the country fail, which created the money supply to drop sharply, and caused prices to fall rather sharply, and led ultimately to the severity of the financial crisis. I think financial instability, which was not addressed by government or anyone else, was a major contributor, both to the depression in the U.S. and abroad. I believe the difference today is that we will address financial issues and try to maintain the integrity and stability of our financial system. We will not let prices fall at 10% a year. We will act as needed to keep the economy growing and stable. So, I think there are some very significant differences between the thirties and today, and we learned a great deal from that episode." April 2, 2008, before Congress's Joint Economic Committee.

Not surprisingly, Chairman Bernanke invokes a notable policy error - committed in the heat of an extraordinarily difficult (post-Bubble) early-1930s period - as justification for government measures to sustain today's U.S. Bubble Economy. Bernanke and the "Friedmanites" just love to pillory Andrew Mellon and the "liquidationists" (and would gladly throw in Hayek and Mises). They avoid (like the plague), however, the much more pertinent policy debate that transpired throughout the Roaring Twenties.

Mr. Mellon was among a group of elder statesman that had become increasingly concerned throughout the decade by the Wall Street speculative boom and its inevitable consequences. The son of a banker, his family's wealth was nearly lost in the Panic of 1873. Actively involved in banking and business from the age of 17, he had witnessed first hand the consequences of the recurring booms and busts that were the impetus behind the creation of the Federal Reserve in 1913. Blaming Mr. Mellon and the "liquidationists" for the Great Depression - as opposed to the extraordinary financial excesses and failed policies of the Bubble period - does disservice to history as well as sound analysis.

There were astute thinkers during the twenties who believed the economy was being severely distorted from a protracted inflationary period that had commenced during the (first) World War. Although it was not manifesting in consumer prices (because of new technologies, products, overheated investment, etc.), excessive money and Credit were fueling dangerous inflationary Bubbles in asset prices - particularly in real estate and the stock market. Certainly, the great "Austrian" thinkers recognized clearly how Credit and speculative excess had come to grossly distort incomes, corporate profits, relative prices and investment. The underlying structure of both the financial and economic systems was being corrupted.

Importantly, during that fateful period a group of seasoned thinkers (businessmen, policymakers, and economists) believed adamantly that policies endeavoring to sustain the distorted pricing mechanisms and the resulting inflated and maladjusted U.S. economy were both inadvisable and doomed for failure. As such, so-called "liquidation" was a central facet of the unavoidable (post-inflationary boom) adjustment period for the highly distorted financial, labor and product markets. Profligate borrowing, spending, and leveraged speculation would come to their eventual end, requiring reallocation of both financial and real resources. It was only a matter of the degree of excess and the proportional adjustment.

To further inflate an unsustainable boom with additional cheap Credit guaranteed only more problematic financial fragility, economic imbalances and resulting onerous adjustment periods. They were adamantly against the (Benjamin Strong) Federal Reserve's efforts to actively manage the economy in the late years of the twenties, fearing that to prolong the reckless Wall Street debt and speculation orgy was to invite disaster (the "old timers" had witnessed many!). History proved them absolutely correct, yet Historical Revisionism to varying extents has been determined to disregard, misrepresent, and malign their views and analytical focus. Bernanke's analytical framework of the causes of the Great Depression is seriously flawed.

Regrettably, efforts by the Federal Reserve and Washington politicians to sustain the U.S. Bubble Economy are doomed to failure. It's not that they are necessarily the wrong policies. More to the point, the basic premise that our economy is sound and growth sustainable is seriously flawed. We've experienced a protracted and historic Credit inflation and it will not be possible to keep asset prices, incomes, corporate cash flows, and spending levitated at current levels. The type and scope of Credit growth required today has become infeasible. Sustaining housing inflation and consumption has turned unachievable.

I'm all for long-overdue legislative reform. Who isn't? But I'll say I heard nothing this week that came close to addressing the key issues. We have longstanding societal biases that place too much emphasis on housing and the stock market, while we operate with ingrained policymaking biases advocating unregulated finance underpinned by aggressive activist central banking and government market intervention. In a 20-year period of momentous financial innovation, our combination of "biases" proved an overly potent mix. And it is worth noting that Wall Street security/dealer balance sheets expanded three-fold in the eight years after the repeal of the (Depression-era) Glass-Steagall Act.

The focus at the Fed and in Washington is to sustain housing, the stock market, and inflated asset prices generally - to maintain the consumption and services-based Bubble Economy. Bernanke believes that if financial company failures can be averted - and with the recapitalization of the U.S. financial sector as necessary - sufficient "money" creation will preclude deflationary forces from gaining a foothold. He assures us the Fed will not allow double digit price declines, despite the reality that such price moves have engulfed real estate markets. And while the federal government "printing presses" will be working overtime going forward, it is also apparent that a key facet of Washington's strategy is to "subcontract" the task of "printing" to Fannie, Freddie, the FHLB, the banking system, and "money funds" - sectors that can today issue "money"-like debt instruments with the explicit or implied stamp of federal government (taxpayer) backing.

Basically, the strategy is to substitute government-backed debt for the now discredited Wall Street-backed finance. I'm the first one to admit that this desperate undertaking stopped financial implosion in its tracks. However, the problem with this whole approach - because of our "societal," financial, and policymaking biases - is that our Credit system will just be throwing greater amounts of (government-supported) debt on top of fragile Credit Structures underpinned largely by home mortgages. Wall Street-backed finance buckled specifically because this ("Ponzi Finance") debt structure was untenable the day increasing amounts of speculative Credit were no longer forthcoming. The underlying inventory of houses doesn't have the capacity to generate debt service - only the mortgagees taking on greater amounts of debt.

The underlying Economic Structure is now THE serious issue. The last thing our system needs right now is trillions more mortgage debt, although it would work somewhat to sustain consumption and our "services-based" Bubble Economy. The inherent problem with a finance, housing, consumption, and "services"-dictated Economic Structure is that it inherently generates excessive debt backed by little of real tangible value or economic wealth-creating capacity. It may appear an "economic miracle," but for only as long as increasing amounts of Credit are forthcoming. At the end of the day, one is left with an extremely fragile Structure both financially and economically.

Yet as long as Wall Street "alchemy" was capable of creating sufficient "money" to fuel the boom - and the world was content in accumulating (increasingly suspect) dollar claims - our Bubble Economy Structure remained viable. It is, these days, increasingly not viable. The wholesale and open-ended government backing of U.S. mortgage debt - and financial sector liabilities more generally - will prove a decisive blow to already shaken dollar confidence. And it is today's reality that the massive scope of Credit growth necessary to sustain the current Bubble Structure will correspond to Current Account Deficits and dollar outflows that will prove (as we're already witnessing) only more destabilizing in markets and real economies around the world.

Government backing of our debt does not substitute for a sound Economic Structure. And it is the current Structure that is incapable of the economic output to satisfy domestic needs and generate sufficient exports to exchange for our huge appetite for imported goods and energy resources. Today's "services"-based economy will no longer suffice. Examining today's job data, one sees that 93,000 "goods producing" jobs declined in March after falling 92,000 in February and 69,000 in January. At the same time, Education, Health, Leisure and Hospitality jobs increased 178,000 during the first quarter. Yet it is more obvious today than ever that we need to consume less and produce much more.

Back to the "liquidationists." It is my view that our economy will require a massive reallocation of resources. We will have to create much less non-productive (especially mortgage and asset-based) Credit and huge additional quantities of tradable goods. In the "services" sector, there will no choice but to "liquidate" labor and redirect its efforts. Throughout finance, there will be no alternative than to "liquidate" bad debt, labor and insolvent institutions - again in the name of a necessary redirecting of resources. After an unnecessarily protracted boom, there will be scores of enterprises that will prove uneconomic in the new financial and economic backdrop. "Liquidation" will be unavoidable.

Recent extraordinary government measures to "back" U.S. finance will likely delay the adjustment process - what I will be referring to as a "depression." This reprieve, however, comes with a cost. It will ensure significantly greater damage to the core of our monetary system, as well as requiring a more onerous real economy "liquidation."

 


 

Doug Noland

Author: Doug Noland

Doug Noland
The Credit Bubble Bulletin
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