What Caused the Credit Crisis and Recession?
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The Regular Update from The Mole and Paddy Power Trader.
The Financial Markets - 22 Apr 09
Yesterday saw a nice little wrestling match between Tim Geithner and his former colleagues at the IMF, a match that was easily won by the US Treasury Secretary.
The respected IMF Global Financial Stability Report pointed to cumulative worldwide financial losses through to 2010 of slightly over $4tr. Assuming a 17 times leverage ratio, the US financial system was seen as unable to earn its way out of the problem and in need of as much as $500bn of fresh capital.
This news was easily trumped and seemingly contradicted by comments from Geithner that the vast majority of US banks have more capital than they need. Superficially poles apart, the two positions are closer together than they seem, in that a small minority of large banks in an increasingly concentrated sector are demanding, and will probably continue to demand, substantial fresh capital injections.
The late report of a spike in Fannie and Freddie prime delinquencies provides further support for the IMF assessment that close to half of the US-based financial losses can be sheeted home to the residential mortgage sector.
Nonetheless, the market rallied on Geithner’s comments, which was all the more remarkable since it followed disappointments from a host of financials, including Bank of New York and Keycorp, not to mention weak outlooks from Dupont, Merck, United Healthcare and Caterpillar and job cuts at Yahoo. This all tends to support the view that yesterday’s equity gains were more a story of recovery from excessive losses on Monday rather than a convincing rally.
Today’s Market Moving Stories:
- Asian stocks traded mixed this morning. They were lead by tech companies after Elpida Memory (+14.71%) reported that it plans to raise ¥50B in public money to shore up its finances and Pioneer (+20.73%) revealed that they may get State funds. However banking and telecom stocks fell as investors remained cautious.
- ECB’s keeper of the hawkish flame Axel Weber reiterated that the bank’s main interest rate should probably not drop below 1%. He added that direct purchases of government bonds by the ECB in primary markets would be inconsistent with the Treaty.
- With the UK government’s hands tied by an already dismal fiscal position, the Chancellor will struggle I feel to pull any stimulative rabbits from the hat in the Budget today, next years election notwithstanding. Possible measures include the bringing forward of further capital spending plans and extra help for the unemployed. Another rise in the top rate of income tax or an increase in VAT (which would be good news for Irish retailers) could help to bring borrowing back down somewhat.
- The Lex has a take on the bank’s stress tests. “Investors are beginning to wake up to Tim Geithner’s so-called stress tests in spite of markets relaxing slightly on Tuesday thanks to soothing words from the US Treasury secretary. The problem is that the stress tests cannot benefit holders of common bank shares, however they are implemented. If they are a fudge, equity markets will estimate the value of bank assets themselves. Yet, if the tests are brutal, common stock holders will also be trammelled.” According to the Wall Street Journal, banks will get the results of the so called stress test on Friday. They will be made public a weak later.
- In a bellwether property deal that shows the extent of the bubble, two AIB HQ blocks in Dublin purchased in April 2006 by Aviva for €90 million are being offered at just €50 million as a result of pressure to liquidate assets due to redemptions.
- The Laura Croft of banking analysts Meredith Whitney was on the wires again yesterday with more warnings on what the future holds for financial stocks.
Another Chinese Stimulus Package On The Way
The Chinese central government is expected to launch its third batch of stimulus investments in large domestic projects in the second quarter to further boost its economy, according to the China Securities Journal. The newspaper said the new money would continue to be poured in projects that could benefit people’s livelihood, such as health and education sectors, big infrastructure projects, and housing for low-income earners. The newspaper said the second-quarter investment might be a larger amount than previous ones, as the government hoped to consolidate foundations for a possible economic recovery with more investment and the summer is a good time for construction work. “It’s good to cash in pledged investment as early as possible, because the economy is under deeper downward pressure in the first half,” said Li Huiyong, a Shenyin and Wanguo analyst. He said the economy was doing “better than expected” thanks to government stimulus moves. China’s fixed asset investment picked up in the first quarter with an increase of 28.8%, which outperformed the annual rate of 25.5% last year.
The Banks Are Stuffed
The IMF has grabbed the world’s central bankers and the business and political classes by the collar and slapped their faces, shouting: “…writedowns could reach a total of around $4 trillion, about two-thirds of which would be incurred by banks”. While it is understandable that politicians remain focused on employment and equity market investors on profit forecasts, these are second tier issues this time. This is not an employment downturn caused by a tightening of monetary policy to control inflation, or simply a stockmarket bust following a bubble, as in 1987.
The IMF has reminded us that it is a credit crisis caused by $2.7 trillion in write-downs of US-originated assets. This has led to a massive deleveraging process that is only about a third of the way through. In addition, the “retrenchment from foreign markets is now outpacing the overall deleveraging process”, the IMF says, so that a sharp decline in cross-border funding has intensified the crisis in several emerging countries. It is painting a horrifying picture: more than $2.5 trillion in additional write-downs by western banks and a funding deficit for emerging countries in this year alone of about $2 trillion. What’s more, governments are throwing the kitchen sink at their economies (it didn’t use that expression) to try to put a cap on unemployment, and that is likely to cause its own problems.
The report might have been headed: “We’re not out of the woods yet, not by a long chalk”, with a sub-heading: “It’s all about the banks. They’re stuffed – fix them first.”
Equities
- Swiss drugmaker Roche are under serious pressure this morning on news that a new study found that their cancer drug Avastin had failed to significantly extend the life expectancy of patients with colon cancer.
- Nestle were also off on an unexpected drop in sales as consumers switch to cheaper unbranded products.
- Peugeot Citroen has reported first quarter sales slumping 25% and said it expects to make a loss in 2009.
- It seems we aren’t even taking to the beer as Heineken’s Q1 profits declined because of demand tailing off in the US and Europe and the costs associated with their ambitious purchases of Scottish and Newcastle.
- LVMH has denied that it is in tentative talks to sell 2/3 of its wine and spirits business Moet Hennessy to its joint venture partner Diageo.
- Élan today reported a Q1 net loss of $102.6mln compared to net loss of $85.5mln in 2008. The loss comes as the company booked charges for restructuring its biopharmaceuticals business and US tax charges. Chief Financial Officer Shane Cooke said: “For the full year 2009, we remain on target to record double digit revenue growth and to be profitable on an adjusted EBITDA basis.” Overall, the slight miss in Tysabri revenues can be taken as a negative. However, the positive outlook for growth going forward by both Biogen and Élan is a strong positive.
The Day Ahead
Earnings reports today include Apple (expected EPS $1.09), AT&T ($0.48), McDonalds ($0.82), Boeing ($0.91), Well Fargo ($0.41), eBay ($0.34), Morgan Stanley ($0.08) and Pepsi ($0.05).
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"What Caused the Credit Crisis and Recession?" last update by The Mole, 22-Apr-2009
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