Commercial mortgage delinquencies continued to rise in November, as would be expected. The highest-rated CMBS are right now paying about a massive 12 percentage points more than Treasuries, compared with with just 0.82 in January:

Commercial mortgage delinquencies rose in November and will climb as the economy slows and unemployment grows, according to Barclays Plc.

Payments more than 60 days late on commercial real estate loans that were bundled together and sold as bonds increased to 0.69 percent last month, compared with 0.57 percent in October and 0.51 percent in September, Barclays data show.

The “relative spike” in delinquent loans marks the “beginning of a sustained, upward trend,” Barclays analysts led by Aaron Bryson in New York said in a report yesterday. “We have repeatedly stressed that CMBS delinquencies are a lagging indicator of performance and tend to lag changes in employment by close to a year.”

Waning demand for the bonds, which are backed by pools of commercial mortgages, caused sales to slump to $12.2 billion this year, compared with a record $237 billion in 2007, according to JPMorgan Chase & Co. estimates.

Delinquent Retailers

Retailers are leading the rise in commercial mortgage delinquencies, according to Barclays. Late payments on retail space rose to 0.58 percent in November, compared with 0.43 percent in October, the data show.

 “The depth and length of this economic downturn looks to be materially worse than many investors initially expected and worse than that experienced during the last recession,” the analysts wrote in a Nov. 26 report.

Looser Underwriting

Underwriting standards on commercial real estate mortgages taken out between 2005 and 2007 were looser than those on loans in prior years, which will contribute to more delinquencies, the JPMorgan analysts said.

The impending default of two commercial mortgages sent spreads soaring to record highs last month. A $209 million loan to finance the Westin La Paloma Resort & Spa in Tucson, Arizona, and the Westin Hilton Head Island Resort & Spa in South Carolina, is near default after cancellations sapped revenue. In southern California, the owner of the Promenade Shops at Dos Lagos missed two payments on a $125 million loan.

The loans were among the largest in a $1.16 billion commercial mortgage debt offering sold by JPMorgan on April 30, Bloomberg data show.

Another hedge fund has frozen redemptions:

Fortress Investment Group LLC fell 25 percent to a record low after the private-equity and hedge-fund manager halted redemptions from its Drawbridge Global Macro fund, which had lost value this year.

Investors asked to withdraw $3.51 billion by year-end, including the $1.5 billion in redemption notices disclosed last month, the New York-based company said today in a filing with the U.S. Securities and Exchange Commission. Fortress spokeswoman Lilly Donohue declined to comment.

“The market essentially lost faith in Fortress as a franchise so that anything Fortress does is tainted by problems that it had in its private-equity portfolio,” said Jackson Turner, an analyst with Argus Research Co. in New York, who has a “sell” rating on the company.

More than 80 firms have liquidated funds, restricted redemptions or segregated assets following a stock-market decline and a credit freeze that started with a housing slump and rising defaults on U.S. subprime mortgages. Hedge funds have posted losses averaging 23 percent this year through Dec. 1, according to Chicago-based Hedge Fund Research Inc.’s HFRX Global Hedge Fund Index.

Fortress said in November its hedge-fund clients asked to pull more than $4.5 billion, or 25 percent of their money, as the company reported its first quarterly loss since going public. The Drawbridge fund had $8 billion as of Sept. 30, and the requested withdrawals amount to about 44 percent of the money pool, said Roger Smith, an analyst with Fox-Pitt Kelton Cochran Caronia Waller USA LLC in New York. Drawbridge lost 12 percent this year, he said.

The hedge-fund industry may shrink as much as 45 percent by the end of this month to $1.1 trillion from its peak of $1.9 trillion in June because of investor redemptions and market losses, Morgan Stanley analyst Huw van Steenis said in a Nov. 24 report.

Yields on speculative-grade bonds imply a default rate of 21 percent, which is higher than the record of the Great Depression. Moody’s forecasts the U.S. default rate to rise to 3.3 percent in October, to 4.9 percent in December 2008 and to 11.2 percent by November 2009. In other words, the US economy will face a period of consolidation and reorganisation, and the US economy of tomorrow will probably depend on exports and manufacturing to a far greater degree than the economy today does. In essence, we’re witnessing that much feared, and discussed, seldom understood unwinding of global imbalances: China is forced to shrink its export sector, as the US is forced to restrain its domestic spending habits. While in sum this is a healing process, the surgery is rather painful because the patient was a bit too late in seeking help for its illnesses:

The extra yield investors demand to own U.S. high-yield bonds was 19.19 percentage points on Dec. 1, according to Moody’s. Assuming a 20 percent recovery rate, the spread implies a default rate of 20.9 percent, John Lonski, chief economist at Moody’s Investors Service, said yesterday in a market commentary. That compares with a rate of 11 percent in January 2001, 12.1 percent in June 1991 and 15.4 percent in 1933.

Defaults and bankruptcies are accelerating as financing options for high-yield companies dwindle amid the longest U.S. economic recession in at least 26 years. The U.S. default rate rose to 3.3 percent in October, according to Moody’s, which forecasts the rate to increase to 4.9 percent in December and 11.2 percent by November 2009.

“The default rate is going to start rising quickly, soon enough it’s going to be breaking above 10 percent,” Lonski said in an interview. “Lack of access to financial capital is a very big problem for high-yield bonds.”

Hawaiian Telcom Communications Inc., a provider of local and long-distance telephone service, and Pilgrim’s Pride Corp., the largest U.S. chicken producer, sought bankruptcy protection on Dec. 1, as they struggled with too much debt taken on before the credit crisis.

Trump Entertainment

Trump Entertainment Resorts Inc., the casino company founded by Donald Trump, had its ratings cut by Moody’s on Dec. 1 after announcing last week it would forgo a $53 million interest payment to conserve cash. Moody’s lowered its probability of default rating to Ca from Caa2 and its rating on the company’s senior secured notes due 2015 to Ca from Caa2, with a negative outlook, suggesting the company is more likely to default.

Three companies have sold $2.7 billion of high-yield bonds this quarter, compared with $30 billion in the same period a year ago, according to data compiled by Bloomberg. Leveraged loans arranged this year total $301 billion, down more than a third from last year, Bloomberg data show.

“There’s a lot of forced selling of high-yield bonds by hedge funds owing to the need to de-lever as well as by mutual funds in response to redemptions,” Lonski said. “You’re looking at a market where the sellers well outnumber the buyers and the reluctance on the part of buyers makes sense if only because a bottom for economic activity is not yet in sight.”

High-yield, high-risk bonds are rated below Baa3 by Moody’s and BBB- by Standard & Poor’s.


U.S. stock swings will be more than triple the average for the next seven months, volatility futures are saying:.

May contracts on the Chicago Board Options Exchange Volatility Index, or VIX, closed yesterday at 43.80, while futures expiring before then trade at higher levels, showing investors expect the Standard & Poor’s 500 Index to rise or fall at least 2.8 percent a day through June 17, according to data compiled by Bloomberg. The last time the benchmark index for U.S. stocks moved that much during the same amount of time was 1932.

“It’s astonishing,” said Jeremy Wien, a volatility trader at Societe Generale SA in New York. “It’s beyond even what were considered worst-case scenarios just last year.”

The S&P 500 rose or fell 4 percent or more on 26 days since Sept. 15, as bank writedowns and losses from the U.S. mortgage market’s collapse approached $1 trillion worldwide. The last time the S&P 500 had as many 4 percent moves was 1933, when it happened 38 times, according to data compiled by Bloomberg. The index has increased or decreased 0.8 percent each day on average in its 80 years of history, Bloomberg data show.

Record High

The 18-year-old VIX, which never exceeded 50 before October, closed at a record 80.86 on Nov. 20 when the S&P 500 tumbled to the lowest level since 1997. The VIX fell four straight years through 2006 and slid to a 13-year low of 9.89 in January 2007, a month before surging a record 64 percent to 18.31 on Feb. 27, 2007, as U.S. equities suffered the worst rout in four years. It lost 8.1 percent to 62.98 today.

The VIX averaged 30.98 this year and 56.14 since Sept. 15, compared with 15.60 in 2003 through the jump in February 2007. January VIX futures closed at 56.24 yesterday, while March contracts were at 47.88.

GM wants 4 billion to survive this month:

GM won’t have enough money to finish this year, asked Congress for $4 billion immediately and access to $18 billion total as a worsening economy forces the automaker to use more cash.

GM is seeking $12 billion in loans and an additional credit line of $6 billion, as it tries to shrink U.S. employment by 34 percent, close plants and emphasize only four of eight current U.S. brands, according to a statement today on its Web site. The Detroit-based company also is seeking to cut debt in half and win new concessions from the United Auto Workers union.

Ford Motor Co. earlier today asked Congress for a credit line of as much as $9 billion, saying it expects to break even or be profitable before taxes in 2011.

The two companies’ requests exceed the $25 billion in aid lawmakers have been considering for all three U.S. automakers. Ford, GM and Chrysler LLC must convince a divided Congress their plans to shrink are severe enough to ensure repayment of the loans.

Are stocks really cheap?

December 2, 2008

Some people still seem to expect a gradual return to the golden days of this decade, but I believe they’re deeply mistaken. We’re going to go through a protacted bear market, or at least a highly volatile but eventually stagnant one for the next 3-5 years. Here are the reasons:


  1. Companies thrive in an environment of deregulation. Regulation is not only costly, but it also prevents “innovative” CFO’s from getting the best performance from extraordinary accounting methods. Regulation is best when it can prevent bubbles from forming, but where there’s no overconfidence, no euphoria, and no stupidity, people are less willing to take risks, and less risk means less growth, less profit and more volatility.
  2. A lot of people have been very badly burnt in the recent economic collapse. History shows that in the aftermath of an event as severe as this, people save more, spend less and take greater care of how they allocate their savings. All this results in less leverage, and consequently slower growth.
  3. Economical events of this scale are usually followed by periods of political instability, and international turmoil. Political instability is never a friend of the stock market.
  4. It’s highly likely that the severe damage that many economies suffer and will suffer from will result in increased protectionism in many countries. I already read reports of governments with high current account deficits encouraging citizens to use domestically produced goods. Protectionism is the bane of globalization, and it’s almost certainly bad for everyone. Trade has been a major stimulant of progress and growth throughout the ages. Yet after so much rampant internationalization, politicians are certain to be drawn to protectionist policies and nationalism to alleviate the people’s concerns and anger, which will lead to slower growth, and lesser profits.
  5. The banking system at the heart of the global economy, has almost been nationalized in many countries. The resurrection of the financial system will take a lot of time, and in the mean time, the lack of credit will cause stagnant stock prices, even in the best of circumstances.  
  6. Many nations have chosen to prolong the crisis by allowing bankrupt and unsustainable firms to continue their existence through government grants. This is obviously a mistake, and there’s a significant chance that these inefficient actors will reduce the global growth potential until they’re able to work through their accumulated losses which should take a long time.
  7. The bailouts across the globe will eventually have to be financed by the taxpayer. That means higher taxes, higher taxes means less consumption, and that means slower growth.

Today Mr. Bernanke enlightened us further on his solution to the credit crisis. What they will be doing, in essence, is selling Treasuries to the market in order to accumulate the funds with which the bailouts are financed, and after that, as yields fall to very low levels, buying the same Treasury bonds, and thereby injecting liquidity to the markets. Thus it sound circular? It does, and it is another of the Federal Reserve’s much publicized but eventually useless financial trickery.  

Why were the Treasuries sold? Because the government wanted to assume the role of the financial intermediary, as banks were unable to undertake their usual duties in that capacity. Since liquidity didn’t flow through private financial channels, the government sucked it out, and splashed it on bankrupt firms, by virtue of its AAA credit rating, and sovereign status. So what makes the Federal Reserve expect that throwing that same liquidity back into the market through Treasury buybacks will cause any changes? In fact, it’s a declaration of bankruptcy. The more he tries to reduce the rates on treasury bonds, the more liquidity will be sucked from markets, since more attractive government paper will necessarily cause other asset classes to present  even less value to investors. We’re back to square one:

“Although further reductions from the current federal funds rate target of 1 percent are certainly feasible, at this point the scope for using conventional interest-rate policies to support the economy is obviously limited,” Bernanke said in remarks to the Austin Chamber of Commerce.

One option for reviving the economy is for the Fed to buy “longer-term Treasury or agency securities on the open market in substantial quantities,” Bernanke said. “This approach might influence the yields on these securities, thus helping to spur aggregate demand.”

While Bernanke was “pretty aggressive on the possibility of the Fed using its balance sheet aggressively through Treasury purchases,” he wasn’t specific about the policy path because he probably didn’t want to preempt the discussion at the FOMC meeting in two weeks, said Sack, a former Fed economist.

The Fed will “continue to explore ways” to keep the market federal funds rate closer to policy makers’ target, after paying 1 percent interest on banks’ reserves failed to stabilize the rate, Bernanke said. The average daily rate has been below the central bank’s target every day since Oct. 10.

That’s because Fannie Mae and Freddie Mac, which are “large suppliers of funds,” aren’t eligible to get interest from the Fed and thus lend below the Fed’s target, Bernanke said.

Last week, the Fed announced two new programs aimed at unfreezing credit for homebuyers, consumers and small businesses. Those include a commitment to buy as much as $600 billion of debt issued or backed by government-chartered housing-finance companies and a $200 billion initiative to support consumer and small-business loans.

 ‘Sustainable Level’

The Fed’s balance sheet “will eventually have to be brought back to a more sustainable level,” Bernanke said. “However, that is an issue for the future; for now, the goal of policy must be to support financial markets and the economy.”

US manufacturing contracted in November at the steepest rate in 26 years. Chinese manufacturing PMI aso contracted.

The Institute for Supply Management’s factory index dropped to 36.2, below economists’ forecasts, and its gauge of raw- material costs plunged to the least in six decades, intensifying concern over deflation. The Tempe, Arizona-based group’s report came as factory indexes in China, the U.K., euro area, and Russia all fell to record lows.

 “This downturn in the global economy is probably more synchronized than we have ever seen,” said Jonathan Basile, an economist at Credit Suisse Holdings in New York. Policy makers should “open the flood gates” for more action, he said.

Construction Spending

A report from the Commerce Department also showed construction spending fell 1.2 percent in October, a bigger drop than forecast, as a slump in homebuilding spread to non- residential projects such as power plants, churches and highways.

China’s purchasing managers’ index fell to a seasonally adjusted 38.8 from 44.6 in October, the China Federation of Logistics and Purchasing reported today. An index covering the 15 nations sharing the euro dropped to 35.6, the lowest since Markit Economics began the poll in 1998.

VTB Bank Europe’s index covering Russia fell to 39.8, and the U.K.’s Chartered Institute of Purchasing and Supply’s factory index was at 34.4, the least since the survey began in January 1992.

New Orders, Production

The U.S. ISM’s purchasing managers’ gauge of new orders for factories decreased to 27.9, the lowest since 1980, from 32.2 the prior month. The production measure fell to 31.5 from 34.1.

The index of prices paid dropped to 25.5, the lowest level in six decades, from 37. That adds to concern that the U.S. economy may be at risk of deflation, a sustained decline in prices and wages caused by scarce credit. Deflation can worsen a recession by making debts harder to pay and countering the effect of interest-rate cuts.

Orders from overseas continue to weaken as economies abroad contract. ISM’s export gauge was unchanged at 41, the lowest reading since records began in 1988.

 ‘Difficult Years’

We are all expecting the year 2009 to be a very low year in terms of demand, not only in the United States, but globally,” Carlos Ghosn, chief executive officer of Nissan Motor Co., said in a Nov. 19 interview on Bloomberg Television. “We may be facing a couple of difficult years, with very low demand.”

In anti-climactic moment, NBER has declared a recession in the US:

The U.S. economy entered a recession a year ago this month, the panel that dates American business cycles said today, making this contraction already the longest since 1982.

The declaration was made by a committee of the National Bureau of Economic Research, a private, nonprofit group of economists based in Cambridge, Massachusetts. The last time the U.S. was in a recession was from March through November 2001, according to NBER.

 “It is clearly not going to end in a few months,” Jeffrey Frankel, a member of the NBER committee and a professor at Harvard University, said in an interview. “We would be lucky to get done with it in the middle of next year.”

The loss of 1.2 million jobs so far this year was the biggest factor in determining the starting point of the U.S. recession, the NBER said. By that measure, the contraction probably deepened last month.

At 12 months, the current contraction is already the longest since the 16-month slump that ended in November 1982, and exceeds the postwar average of 10 months.

The contraction is the second under President George W. Bush’s watch, making him the first U.S. leader since Richard Nixon to preside over two recessions.

Summers, More Action

Lawrence Summers, President-elect Barack Obama’s pick for White House economic adviser, said the economy is getting worse and requires more legislative action.

“Recent economic evidence suggests that the pace of this downturn is accelerating,” Summers said in a statement. He said Obama wants to enact a recovery package “soon after taking office.”

The likely length of this downturn may cast doubt on economists’ view that the business cycle was moderating in recent decades.

“Everyone had thought long, deep recessions were a thing of the past,” Frankel said. “There was a lot of talk of the new economy.”

More than 80 hedge funds have liquidated, restricted redemptions or segregated assets during the credit crisis so far. The reader should remember that market-size contraction is the hallmark of this crisis. Another one did so today:

Tudor Investment Corp., the firm run by Paul Tudor Jones, temporarily suspended client redemptions from the $10 billion BVI Global Fund Ltd. as it plans to split the hedge fund into two.

Tudor is proposing to put hard-to-sell investments, mostly corporate bonds and loans from emerging markets, into a new fund called Legacy, Jones said in a Nov. 28 letter to investors. BVI Global, the flagship fund Tudor started in 1986, would focus on easier-to-trade stocks, bonds, commodities and currencies.

Investors asked to pull 14 percent of their money from BVI Global as it lost 5 percent this year through November, according to the letter. That compared with an 18 percent loss through October of the Multi-Strategy Index compiled by Hedge Fund Research Inc.

Tudor, which oversees $17 billion, is asking BVI Global investors to approve the plan to split the fund in the next two months. Clients would have their money allocated between BVI Global and Legacy based on the division of assets.

Legacy will account for about 29 percent of BVI’s assets as of March 31, 2009, according to the letter. It will include emerging-market corporate credit debt, which has “ceased to be tradable,” as well as investments in private equity and hedge funds.

Emerging-markets securities have fallen as commodity prices plunged and investors shunned riskier assets on concern the global economy is entering a recession. The MSCI Emerging Markets Index has dropped 58 percent this year.

Jones, 54, told clients in August that Jim Pallotta, head of equities, is leaving to start his own firm. Pallotta will keep the Raptor Global Fund that he runs out of Boston from January. The fund lost 16.5 percent this year through Nov. 19, according to investors.

Industry Contracts

The hedge-fund industry may shrink as much as 45 percent by the end of this month to $1.1 trillion from its peak of $1.9 trillion in June because of investor redemptions and market losses, Morgan Stanley analyst Huw van Steenis said in a Nov. 24 report.

Hedge funds have posted losses averaging 22 percent this year through Nov. 24, according to Chicago-based Hedge Fund Research’s HFRX Global Hedge Fund Index.

And another one:

Highbridge Capital Management LLC, the $20 billion investment firm run by Glenn Dubin and Henry Swieca, is limiting client withdrawal requests to avoid selling assets at distressed prices, according to a person familiar with the matter.

Investors who submit withdrawal requests to the $1.9 billion Asia Opportunities Fund this quarter will get half their money by the end of January. The fund, which lost 32 percent this year through October, will return the rest within 12 to 18 months.

Highbridge, based in New York, will segregate hard-to-sell assets and sell them off over time in the hope that prices recover and clients get more money back. Firms including Tudor Investment Corp. and GLG Partners Inc. have taken similar steps in the past month.

The fund gained 18.7 percent last year, 15.4 percent in 2006 and 6.88 percent in the previous year when it was started. JPMorgan Chase & Co., the largest U.S. bank by assets, bought a majority stake in New York-based Highbridge four years ago and increased its ownership to 78 percent in January.

Deleveraging, like most economical events, is a gradual process. It roughly begins at front-line financial actors, such as hedge funds, banks and speculators, moves to the real economy and the corporate sector at the second stage, and finally reaches the consumer. We have entered the first two phases of deleveraging already, and now it’s the third stage where the consumer has to shrink his balance sheet.


The Economist stated, on Nov20th 2008:


“An important reason why the American economy has been so resilient and recessions so mild since 1982 is the energy of consumers. Their spending has been remarkably stable, not only because drops in employment and income have been less severe than of old, but also because they have been willing and able to borrow. The long rise in asset prices—first of stocks, then of houses—raised consumers’ net worth and made saving seem less necessary. And borrowing became easier, thanks to financial innovation and lenders’ relaxed underwriting, which was itself based on the supposedly reliable collateral of ever-more-valuable houses. On average, consumers from 1950 to 1985 saved 9% of their disposable income. That saving rate then steadily declined, to around zero earlier this year (see chart). At the same time, consumer and mortgage debts rose to 127% of disposable income, from 77% in 1990.


Bruce Kasman and Joseph Lupton of JPMorgan predict that the saving rate will jump to around 4.5% by the end of next year, the sharpest jump in so short a time in the post-war period. This compulsory return to thrift will be deeply painful; consumer spending and housing are almost three-quarters of GDP. Of the 1.2 million, or 0.9%, decline in jobs since December, about 700,000 are directly related to consumers: retail trade, transportation manufacturing and home-building. The rise in unemployment, from 4.4% in 2006 to 6.5% in October, is nearing that of 2001-03 and is not over. Consumer prices plunged a record 1% in October from September, and by 0.1% excluding fuel and food, the first such decline since 1982. The Fed’s vice-chairman, Donald Kohn, said outright deflation “is a risk out there but it’s still small.


Until 1982 recessions were often induced by the Fed to weaken demand and reduce inflation. Declines in GDP were dominated by business inventories and interest-sensitive spending such as cars and houses. Once the Fed eased money, spending sprang back.

Since then inventories have become less important to the business cycle and deregulation and financial innovation mean higher interest rates take longer to affect spending. Expansions are marked by sizeable growth in assets and debt. When the cycle turns, falling asset values and debt reduction weaken the kick of lower rates, producing anaemic recoveries with rising unemployment. The Fed has already lowered its interest-rate target to 1%, but it is fighting gale-force headwinds as lenders reduce their loan portfolios. Citigroup recently told many of its credit-card holders that it was raising their interest rates by up to three percentage points.

Lenders once routinely pooled credit-card, student and car loans into securities and sold them to capital-markets investors. Joseph Astorina of Barclays Capital says no one wants to buy such securities now for fear that some overextended investor will dump its own holdings a week later, driving their values down sharply. The issuance of credit-card-backed securities, which averaged $8 billion a month in 2007, was zero in October, he says.

Alan Greenspan, the former Fed Chairman, told The Economist this week that banks were satisfied with capital equal to 10% of their assets in the past. Now, to soothe depositors and investors, they will need a much higher ratio—perhaps around 15%. Until they get there, through a combination of raising new capital, reducing dividends and share buybacks, and shedding assets, lending will be constrained.”



Comment: Most of the surge in the household debt ratio has occurred after 2000, roughly coinciding with the skyrocketing of US external deficit. Though well-known, it is still an important harbinger of the massive correction that US consumption will go through, because the rise had mostly been funded by Asian export money and petrodollars. With the collapse of global trade, this source of funding will dry out, leaving the US consumer’s excesses dependent on government handouts.

Nonetheless, the correction should be allowed to happen, as the opposite is impractical. US consumers have to learn to live like responsible individuals, and others in the world must learn to generate domestic demand to replace American profligacy.

We’re now having a Thanksgiving holiday for the markets. Indeed, there’s a slight chance that we’ll see a bear market rally in the coming weeks, the realization of which will depend on the success of central banks in easing year-end funding issues. A lot has been done, and at least for me, it’s hard to predict the outcome. Nevertheless, today’s developments in the interbank market do not emit positive signals:

The cost of borrowing in dollars for one month in London jumped the most since 1999 as banks sought to bolster balance sheets through year-end amid a squeeze on credit that’s being exacerbated by the global economic slump.

The London interbank offered rate, or Libor, that banks say they charge one another for such loans climbed 47 basis points to 1.90 percent today, British Bankers’ Association data showed. The Libor for three-month loans rose two basis points to 2.20 percent. The Libor-OIS spread, a measure of the willingness of banks to lend, also increased.

“There is some concern about the turn of the year,” said Patrick Jacq, a senior fixed-income strategist in Paris at BNP Paribas SA. “I wouldn’t be surprised to see this tension easing over the next few days as central banks address the situation with more liquidity.”

With little more than a month to go until the end of 2008, banks are vying for loans that mature after Dec. 31 to strengthen their balance sheets as they prepare to report to investors. Financial institutions mark the value of loans and cash positions at the end of each quarter. The euro interbank offered rate, or Euribor, for one-month loans rose 22 basis points to 3.61 percent today, the first increase in 24 days, according to the European Banking Federation.

Cash Hoarding

Banks and companies are hoarding cash amid concern interest-rate cuts and injections of liquidity along with government-spending programs won’t be enough to avert the worst global recession since World War II. Rates on U.S. commercial paper, or short-term company loans, climbed yesterday by the most in more than a month.

The Federal Reserve this week committed as much as $800 billion to thaw a freeze in credit for consumers and small businesses. The U.S. also provided a $306 billion rescue to Citigroup Inc. Financial institutions are cutting jobs amid $970 billion of writedowns and credit losses since the start of 2007.

Asian Rates

Money markets began seizing up in August 2007 as banks became wary of lending to each other on concern their counterparties were holding assets linked to U.S. subprime mortgages. They froze up after the Sept. 15 collapse of Lehman Brothers Holdings Inc. sparked concern more banks would follow. The one-month dollar rate jumped 40 basis points on Nov. 29 last year as banks sought cash for the year-end.

Asian financing costs were calmer today. Hong Kong’s three-month interbank lending rate, Hibor, rose about five basis points to 2 percent. Tokyo’s rate increased one basis point to about 0.87 percent. Singapore’s three-month U.S. dollar rate, known as Sibor, slipped to 2.20 percent, from about 2.21 percent.

China’s central bank yesterday lowered its one-year lending rate by the most since the 1997 Asian financial crisis, less than three weeks after Premier Wen Jiabao unveiled a 4 trillion yuan ($586 billion) stimulus plan.

‘Toxic Debt’                                                       

In a further indication of the squeeze in lending, the European Central Bank registered almost 217 billion euros ($280 billion) of cash deposited by banks yesterday in its overnight facility. It was the sixth straight day the figure surpassed 200 billion euros. The daily average in the first eight months of the year was 427 million euros.

The Libor-OIS spread, a gauge of cash scarcity among banks favored by former Fed Chairman Alan Greenspan, was little changed at 178 basis points. The difference between what banks and the Treasury pay to borrow money for three months, known as the TED spread, widened two basis points to 217 basis points. The spread, which reached a low this year of 76 basis points in May, was at 464 basis points on Oct. 10, the most since Bloomberg began compiling the data in 1984.

Hedge fund liquidations and redemptions, of course, continue unabated:

Bluebay Asset Management Plc dropped the most since its initial public offering two years ago after the manager of fixed-income investments said it will shut down its Emerging Market Total Return Fund.

The $1.2 billion hedge fund, which accounts for 6 percent of assets under management, had dropped 53 percent this year, Bluebay said today in a statement. Fund manager Simon Treacher resigned “following a breach of internal valuation policy,” it said. He couldn’t immediately be reached for comment.

“Marketing other funds may now become very difficult,” said Gurjit Kambo, a London-based analyst at Numis Securities Ltd. who tracks the industry. “People become more nervous about putting money into Bluebay.”

Bluebay won’t retreat from credit-market investments despite “extremely challenging” conditions, Chief Executive Officer Hugh Willis said in the statement. Satellite Asset Management LP and Artemis Asset Management joined the list this week of more than 75 hedge funds that have liquidated or restricted investor redemptions since the beginning of the year.

Bluebay declined 30 percent to 70 pence, valuing the London-based company at 135 million pounds ($208 million). The shares, which peaked at 568.25 pence in June 2007, have fallen 80 percent this year.

The Emerging Market Total Return Fund was hurt by “liquidity conditions” and is no longer viable on its own, Bluebay said. The closure means that revenue from funds that bet on both rising and falling share prices will probably be below analysts’ estimates, Bluebay said.

The fund was hurt by “a perfect storm” after two wrong bets on cash bonds and credit default swaps, Kambo said. The value of cash bonds failed to rise as Bluebay expected, and credit default swaps narrowed, meaning the perceived risk of default decreased, he said.

Satellite Asset Management LP, founded by former employees of billionaire George Soros, stopped client withdrawals from its three largest hedge funds and eliminated more than 30 jobs after losses reduced the firm’s assets to about $4 billion this year.

Satellite Overseas Fund Ltd., Satellite Fund II LP and Satellite Credit Opportunities Ltd. have declined as much as 35 percent in 2008, said a person with knowledge of the funds’ performance. Simon Rayler, Satellite’s general counsel, declined to comment and wouldn’t disclose how many people remain at the firm’s New York headquarters or London offices. Satellite oversaw about $7 billion for clients at the end of last year.

More than 75 hedge funds have liquidated or restricted investor redemptions since the start of the year as they cope with fallout from the global financial crisis. Investors pulled $40 billion from hedge funds last month, while market losses cut industry assets by $115 billion to $1.56 trillion, according to data compiled by Hedge Fund Research Inc. in Chicago.

“Barring volatility in the markets, I expect that by the end of the year, we would’ve seen the bulk of these redemption suspensions done,” said Ron Geffner, who represents hedge funds at the New York-based law firm Sadis & Goldberg LLP.

Satellite was started in 1999 by Lief Rosenblatt, Gabe Nechamkin and Mark Sonnino, who worked together for 11 years at Soros Fund Management LP in New York. The firm is retaining teams that trade bonds and loans and invest in companies going through events such as takeovers, said the person, who asked not to be identified because the information is private.

21% Redemption Rate

The company has received withdrawal notices, which are effective through June, for 21 percent of the $2 billion Satellite Overseas Fund Ltd., its largest fund, the person said.

Satellite has cash to meet current redemptions and will continue to run the funds and sell securities over a period of years to avoid unloading them quickly in slumping markets, the person said.

Commodities keep falling too. Of course with the investments of the past two years

Lead fell to a two-year low in London as reductions in automobile production erode demand for the metal used mostly in car batteries. Copper declined.

U.S. vehicle sales at the lowest since 1991 prompted cuts at General Motors Corp. and Ford Motor Co. China’s output of lead concentrate, used to make refined metal, climbed 14 percent in the first 10 months, according to Mainland Marketing Research Co.

“Investors and consumers have given up,” said David Thurtell, an analyst at Citigroup Global Markets in London. There is “a sharp rise in Chinese production and a sharp fall in auto demand.”

Lead for delivery in three months declined $81, or 6.8 percent, to $1,105 a metric ton on the London Metal Exchange, the lowest since July 2006. Prices have dropped 57 percent this year. Inventories in warehouses monitored by the LME rose 250 tons, or 0.6 percent, to 41,200 tons, according to the exchange’s daily report.

Copper fell on concern a slumping U.S. economy will crimp consumption of Chinese imports and demand for industrial metals in the Asian economy. Some economic indicators in China showed a “faster decline” this month, National Development and Reform Commission Chairman Zhang Ping said in Beijing today.

Copper usage in the U.S., the largest buyer after China, fell 9 percent in the first eight months and demand in China rose 13 percent, according to the International Copper Study Group.

“Over the last month or so, the perception is that China was slowing down faster than people thought it would,” said William Adams, an analyst at London-based “The Western world is putting on the brakes rapidly and therefore China can see their export demand will suffer.”

And yesterday China cut rates by the largest amount in 11 years.

China’s biggest interest-rate cut in 11 years highlights government concerns that the country risks spiraling unemployment, social unrest and the deepest economic slowdown in almost two decades.

The central bank yesterday lowered its benchmark one-year lending rate by the most since the 1997 Asian financial crisis, less than three weeks after Premier Wen Jiabao unveiled a 4 trillion yuan ($586 billion) stimulus plan.

“China’s trying to draw a line under unemployment and civil unrest,” said Glenn Maguire, chief Asia-Pacific economist at Societe Generale SA in Hong Kong. “It’s the most challenging set of circumstances Beijing has had to face since late 1989 that culminated in the protests in Tiananmen Square.”

About 1,000 police and security guards this week attempted to break up a demonstration of fired workers that overturned a police car, smashed motorbikes and broke company equipment in southern Guangdong province, the state-run Xinhua News Agency reported yesterday. The nation’s “top policy priority” is maintaining growth to create jobs, Zhang Ping, chairman of the National Development and Reform Commission, told a briefing in Beijing today.

The central bank cut the key one-year lending rate 108 basis points to 5.58 percent. The deposit rate fell by the same amount to 2.52 percent.

‘Forceful, Fast’ Measures

China vaulted past the U.K. in 2005 to become the world’s fourth-largest economy, with growth averaging 9.9 percent for the past 30 years. The economy has expanded 68 times in size since free-market reforms began in 1978.

Gross domestic product may grow 5.5 percent next year, the slowest since a 3.8 percent expansion in 1990, CLSA Asia Pacific Markets forecasts. That compares with an 11.9 percent gain in 2007.

Some economic indicators declined more quickly this month, showing the urgency of “forceful and fast” measures to stimulate growth, the NDRC’s Zhang said.

China, the world’s most populous nation, is aiming for at least 8 percent growth to provide jobs for workers moving to the cities from the countryside. A decline to even that level would be tantamount to a recession, according to Tao Dong, chief Asia economist with Credit Suisse AG in Hong Kong.

Exports are suffering as recessions in the U.S., Europe and Japan cut demand for China’s toys, sneakers and computers. Net exports — the difference between exports and imports — accounted for a fifth of GDP growth last year.

Toy Exporters

Two-thirds of small toy exporters closed in the first nine months of this year, the customs bureau said this week.

“Employment is being impacted by factory closures and many migrant workers are returning to their home towns,” Zhang said.

China is trying to keep the official urban unemployment rate below 4.5 percent this year, which would be the highest in at least a decade. The Labor Ministry says the figures don’t account for millions of migrants who work in urban areas but aren’t registered there.

“Twenty percent of migrant workers may lose their jobs and in some provinces it is already at that level,” said Andy Xie, an independent economist in Shanghai who was formerly Morgan Stanley’s chief Asia economist. “When they return to their villages we don’t know how these things might work out.”

Deflation Risk

The size of the rate reduction also signals the central bank’s concern that the economy faces a bout of deflation as oil and commodity prices drop. That’s a switch from the first half of this year, when Governor Zhou Xiaochuan was focused on fighting inflation that rose to a 12-year high in February.

“The aggressive rate cut is a response to the central bank’s concern about the short-term deflation risk,” said Xing Ziqiang, an economist at China International Capital Corp. in Beijing, who predicts another 108 basis points of rate reductions in the coming year.

“There is still ample room to cut rates in the future,” said Peng Wensheng, head of China research at Barclays Capital in Hong Kong, who sees a 54 basis point reduction in December.

The fourth rate reduction since mid-September adds to the government’s package of measures to stimulate growth through 2010.

The State Council has pledged “fast and heavy-handed investment” and a “moderately loose” monetary policy. The plan spans housing, rural development, railroads, power grids and rebuilding after May’s earthquake in Sichuan province.

China’s cabinet said yesterday that it was studying extra measures to help struggling companies in the steel, auto, petrochemical and textile industries; to increase key commodity reserves; and to expand insurance for the jobless.

“In previous crises China could always get out of trouble by boosting its exports,” said Xie. “This time that’s not an option.”








Behind the curve?

November 25, 2008

From FED statement of September 16th:

“Tight credit conditions, the ongoing housing contraction, and some slowing in export growth are likely to weigh on economic growth over the next few quarters. Over time, the substantial easing of monetary policy, combined with ongoing measures to foster market liquidity, should help to promote moderate economic growth.

Inflation has been high, spurred by the earlier increases in the prices of energy and some other commodities. The Committee expects inflation to moderate later this year and next year, but the inflation outlook remains highly uncertain.

The downside risks to growth and the upside risks to inflation are both of significant concern to the Committee. The Committee will monitor economic and financial developments carefully and will act as needed to promote sustainable economic growth and price stability.”

Showing how reckless, inept, and ad-hoc the government has been in this crisis requires no lengthy elaboration. But whether the same people who saw moderate economic growth in September, and thought that downside risks to growth and upside risks to inflation were balanced, should still be running the economy is an open question.

On Thursday this website had stated that Citigroup wouldn’t survive without a government bailout. And they have been bailed out during the weekend. We also noted here that the 700 billion of Tarp was far from being enough. And recently the President-Elect has been speaking about another trillion for the US economy, as the Fed is adding another 300 billion to its toxic assets. So the Tarp has almost been tripled already. And there will be more.

Citigroup Inc. received a U.S. government rescue package that shields the bank from losses on toxic assets of $306 billion and injects $20 billion of capital, bolstering the stock after its 60 percent plunge last week.  In return for the cash and guarantees, the government gets $27 billion of preferred shares paying an 8 percent dividend and warrants equivalent to a 4.5 percent stake in the company. The warrants accompanying the preferred shares give the government the right to buy 254 million Citigroup shares at $10.61 each, allowing taxpayers to profit if the stock rallies following the government’s investment. The $20 billion of new cash adds to a $25 billion infusion the bank collected last month under TARP.

Under the asset guarantees, Citigroup will cover the first $29 billion of pretax losses on the $306 billion asset pool, in addition to any reserves it already has set aside. After that, the government covers 90 percent of the losses, with Citigroup covering the rest.

Dividend Cut

The cost of the new preferred shares will reduce earnings left over for common shareholders. Under the terms of the deal with the government, Citigroup also has to slash its quarterly shareholder dividend to 1 cent from 16 cents.

The asset guarantees and capital infusion will boost Citigroup’s Tier 1 ratio — a gauge of the bank’s ability to withstand loan losses — to 14.8 percent, from 8.19 percent at the end of September. A bank needs a 6 percent Tier 1 ratio to meet the regulatory requirements for “well-capitalized” status, and Citigroup has at least $100 billion more capital than it needs to reach that threshold, Citigroup CFO Gary Crittenden said.

Vanishing Value

Citigroup’s market value, which at $274 billion at the end of 2006 was bigger than any of its U.S. rivals, has since slumped to $31 billion, ranking No. 6 behind JPMorgan Chase & Co., Wells Fargo & Co., Bank of America Corp., U.S. Bancorp and Bank of New York Mellon Corp.

Citigroup remains vulnerable to losses on loans and securities outside the U.S., said Peter Kovalski, a portfolio manager at Alpine Woods Capital Investors LLC in Purchase, New York, which oversees $8 billion and holds Citigroup shares. The bank also is keeping its credit-card and consumer-finance loans, where delinquencies also have surged.

The government plan “gives them a little bit of breathing room, but longer term, things may deteriorate and losses increase,” said Kovalski. “The Achilles heel with Citi is their exposure to emerging markets and what’s going to happen when emerging markets turn down, as they’re doing now.”

Hedge fund redemptions are continuing:

Millennium Partners LP, the $13.5 billion hedge-fund firm run by Israel Englander, plans to return $1 billion to investors who asked for their cash back by year-end, according to two people familiar with the matter.

The redemptions, equal to 7.4 percent of client assets, would have been higher except they triggered limits set by the New York-based firm, said the people, who asked not to be identified because the information is private. A spokeswoman for Millennium declined to comment.

 “We’re seeing the result of hedge funds’ being subject to the whims of those in asset allocation,” said Adam Sussman, director of research at Tabb Group LLC, a New York-based adviser to financial-services companies. “No fund is immune.”

Investors pulled $40 billion from the loosely regulated, private pools of capital last month and market losses cut the assets by $115 billion to $1.5 trillion, according to Chicago- based Hedge Fund Research.

Different Restrictions

Some Millennium investors might rescind redemptions before year-end, which would prevent the limits, known as gates, from taking effect, said one of the people. Each share class of the fund has different rules that restrict the amount clients can withdraw.

And U.S. stocks are posting the biggest two-day rally since 1987 on Citigroup, according to Bloomberg:

U.S. stocks posted the biggest two- day rally since 1987 after the government guaranteed $306 billion of troubled Citigroup Inc. assets and lawmakers pledged to pass another economic stimulus package.

The S&P 500 surged 6.5 percent to 851.81, capping a two-day gain of more than 13 percent. The Dow Jones Industrial Average climbed 396.97 points, or 4.9 percent, to 8,443.39. The Nasdaq Composite rose 6.3 percent to 1,472.02. Europe’s Dow Jones Stoxx 600 climbed 8.4 percent, while the MSCI Asia Pacific Index slipped 0.7 percent.

Obama today announced Lawrence Summers, a former Treasury Secretary who stepped down as president of Harvard University in June 2006, as White House economic director. He said policy makers had to “act swiftly and act boldly” to avert the loss of millions of jobs next year.

Concern that Citigroup may need a government rescue sent bank stocks down 24 percent last week, the worst slide in at least 19 years.

Energy companies in the S&P 500 climbed 6.1 percent collectively as oil rallied 9.2 percent to $54.50 a barrel in New York as the rescue of Citigroup boosted confidence and a weaker dollar enhanced the appeal of commodities.

Daily swings of 3 percent or more in the S&P 500 have became the norm as the benchmark gauge of U.S. equities extended losses in its worst year since 1931. During the first nine months of 2008, the index moved at least 3 percent on 14, or 7.4 percent, of the 189 trading days, and there were only two days when it gained or lost more than 5 percent.

Only November 1929 overshadowed October 2008 as the most volatile month for the index, according to S&P analyst Howard Silverblatt, citing moves of at least 1 percent on 86 percent of last month’s trading days.

President-elect Barack Obama’s new spending initiative, which is reported to involve massive infrastructure investments in education, clean energy, and others, is not the remedy to the economic crisis, but it’s nonetheless the best course of action for the government. Unlimited and indiscriminate temporary liquidity provisioning, and even permanent cash grants to individual firms have both failed to produce a perceptible improvement in the financial markets, despite the persistence and extravagance of the government authorities. Nor should these measures be expected to produce any results, because this crisis broke out as a consequence of money saturation, i.e. the explosion of a bubble, where the efforts of  central banks to further inflate the money supply, and increase risk appetite receive ever decreasing responses from the markets until such a point is reached that the central banks and government authorities become all but irrelevant to the behaviour of the markets.


One can speak of a money saturation event as the mirror image of hyperinflation which is nowadays more often seen in emerging markets and developing nations, where the ability of the financial system to mask inflation through speculative activity and sustained asset price rises is far more limited. In an advanced economy such as the US, where the political mechanisms are so formed that the wage-setting power of the employee is much less limited, the increasing money supply is directed to channels that cause inflation in a more subtle and less obvious way: instead of the employee causing prices to rise through increased demand, the  employer causes asset values to rise through speculative activity, the windfall from which is shared with employee through the transmission channels of an advanced economy, such as mutual funds, REITs, and others.


In other words, inflation caused by higher wages is the fruit of a more socialistically-inclined system. Inflation caused by higher asset prices, leading to money saturation, is the creation of a more capitalistic system, where political power is willing to check the irrational desires of labour, but is far more complacent with the nonsensical activities of the rich and powerful. The terms “rich” and “labour” are only used in a general sense here, without implying that the agents that cause asset price inflation are always the “rich” in the direct sense of the word.


Once a more unified understanding of inflation is thus achieved, it is also easier to see why gold is not gaining against the dollar nowadays, and why, for instance, despite the extreme profligacy of the government, the dollar is not collapsing. The simple fact is that the collapse in the value of the dollar that many in the market have been anticipating in the past years has already occurred: gold has already appreciated from around 220 dollar per ounce to more than 1000 per ounce in the course of around eight years. In that sense, the US was already going through a period of hyperinflation, however, the event was masked by asset price appreciation, as CPI remained relatively tame. Thus, whereas in a developing nation, or an emerging market, extreme rises in money supply will result in hyperinflation, and will essentially lead to money being to worthless to be used as a transaction mechanism, a money saturation event will lead to money being too valuable to be used as a tranaction mechanism, with the result, however being the same. Both hyperinflation, and money saturation lead to recessions. The hallmark of hyperinflation is extremely high nominal rates, while that of money saturation is negative rates.  


The implication of all this, of course, is that an economy without the structures (such as securitisation, investment banking, pension insurance) that can channel money supply in effective ways to create asset bubbles, will be faced with hyperinflation in the classical sense, provided that there is enough growth in money supply to create it. However, the characteristic of a money saturation event is the rapid shrinkage of money supply which essentially precludes any wage inflation until the underlying pessimism is overcome.

Corporate bonds, CDS, libor, commodities, are all in crisis mode at the moment. But the situation is not the same as in September, the financial system is already wrecked, and all that the investor has to do is waiting. A general pessimistic bet on the economy is likely to pay well for the next six months, even if angels descend to the Earth to save us all.

The cost of protecting corporate bonds from default surged to records around the world as the prospect of U.S. automakers filing for bankruptcy protection fueled concern of more bank losses and a deeper recession.

“Markets are back in crisis mode,” said Agnes Kitzmueller, a Munich-based credit strategist at UniCredit SpA, Italy’s biggest bank. “There is fear in the market.”

General Motors Corp., Ford Motor Co. and Chrysler LLC executives left Washington empty handed yesterday after two days of pleading with lawmakers for a $25 billion bailout. Credit markets have “significant” liabilities to the automakers, raising the prospect of “continued writedowns,” BNP Paribas SA analysts told investors today.

Credit-default swaps on the Markit CDX North America Investment-Grade index jumped 23 basis points to an all-time high 270, according to broker Phoenix Partners Group at 11:15 a.m. in New York. The Markit iTraxx Crossover Index of 50 European companies with mostly high-yield credit ratings rose 37 basis points to 927, having earlier traded at 933.

Stocks slumped worldwide as a Conference Board report of leading economic indicators fell for the third time in four months, signaling a deepening recession. U.K. retail sales dropped for a second month in October as rising unemployment and the financial crisis dissuaded shoppers from spending.

Treasury yields declined to record lows, with two-year notes dropping below 1 percent for the first time, as investors shunned all but the safest assets.

Credit-default swaps on New York-based Citigroup Inc. rose 40 basis points to 405, Phoenix prices show. Contracts on Goldman Sachs Group Inc increased 65 basis points to 400 and Morgan Stanley rose 60 to 515.

“Anything’s possible in this market,” said Mark Bayley, a director of credit at ABN Amro Holding NV in Sydney. “You’re seeing sellers of risk and very few buyers. The sellers are becoming more stressed and willing to accept very wide spread levels for corporate bonds.”

Investors also shunned high-risk, high-yield loans, driving the Markit iTraxx LevX index of CDS on leveraged buyouts down to a record low of 78.5, BNP Paribas prices show. The current series of the index began trading at 99 on Sept. 29. The benchmark falls as credit risk rises.

The US Treasuries keep outperforming everything else. But this may not remain so forever, if the Fed decides to activate its most outlandish contingency plans, so to speak. I believe that the Federal Reserve is soon going to engage in the most unprecedent reflationary effort of any government at any time, and we’ll together see the results of the experiment. Three month treasuries are yielding 2 basis points, that is 2 hundredths of one percent, at the moment.

Treasury yields declined to record lows, with two-year notes dropping below 1 percent for the first time, as global stocks slumped and a deepening recession drove investors to the safest assets.

Yields on two- and five-year notes and 30-year bonds dropped to the least since the Treasury began regular issuance of the securities. Ten-year note yields touched the lowest since 2003 after yesterday’s release of the minutes of last month’s Federal Reserve meeting showed policy makers expect the economy to contract through the middle of 2009 and more interest-rate cuts may be needed to counter deflation.

Investors turned to government debt as recessions in the U.S., Europe and Japan hurt corporate earnings and drove prices of shares, commodities and real estate lower. Stocks declined worldwide, with the MSCI World Index losing 2.4 percent.

Longer Maturities

The 30-year yield fell as much as 21 basis points to 3.70 percent, the lowest level since regular sales started in 1977. Yields on five-year notes declined to 1.93 percent, not seen since 1954, according to data compiled by Bloomberg and the Fed.

Treasury Bill Rates

Two-year notes returned 6.5 percent in 2008, compared with 7.5 percent last year, according to indexes compiled by Merrill Lynch & Co. The yield declined from 3.11 percent on June 13, the highest level this year.

Rates on three-month bills dropped to 0.02 percent. That equals the level reached after the collapse of Lehman Brothers Holdings Inc. on Sept. 17, the lowest since the start of World War II.

Fed officials lowered their economic-growth estimates to zero to 0.3 percent for 2008, from 1 percent to 1.6 percent previously, the median forecast of Fed governors and district- bank presidents showed. The predictions for GDP next year ranged from a contraction of 0.2 percent to growth of 1.1 percent. The jobless rate is projected to be 7.1 percent to 7.6 percent.

Derivatives contracts tied to the value of the yen have helped drive down 10- and 30-year interest-rate swap spreads as the Japanese currency rallies against the dollar, Ahrens said. The yen has gained 12 percent since September as investors purchase the currency to repay loans made in Japan in order to unwind investments in higher-yielding assets.

Paulson’s Decision

The price to exchange, or swap, floating for fixed-rate payments for 30 years fell below the yield on similar maturity Treasuries by the most ever as dealers hedged against risk related to derivatives, Ahrens said. The yield on the 30-year bond was as much as 51 basis points higher than the 30-year swap rate. The swap rate has remained below the long bond’s yield since Nov. 5.

The gap between 10-year swaps and the 10-year note yield reached as low as 6 basis points, the narrowest since at least 1988, when Bloomberg data began tracking the instruments.

Yields have hit record lows since Treasury Secretary Henry Paulson said on Nov. 12 he would abandon plans to use the Troubled Asset Relief Program to buy mortgage assets from banks. The London interbank offered rate has spiked 11 basis points in the three days after Paulson’s shift. Before Paulson’s announcement Libor, which banks charge each other for three- month loans in dollars had fallen for 23 straight days.

“Changing the terms of the TARP as suddenly as he did undermined investor confidence,” said Richard Schlanger.

Investors erased more than $33 trillion from global stock markets this year as the U.S., Europe and Japan slipped into recession.

Breakeven rates, which show the difference in yields between inflation-linked and nominal bonds, suggest traders are betting the U.S. economy may face deflation over the next two years. The two-year U.S. breakeven rate was minus 4.09 percentage points.

“You have the cloak of a declining inflationary environment,” said Tom Tucci, head of U.S. government bond trading in New York at RBC Capital Markets, the investment- banking arm of Canada’s biggest lender. “People are denying it, but we are mirroring the whole Japanese situation and if that’s the case interest rates are going to go a lot lower.”

Credit rating downgrades are going on, adding fuel to fire. Though of course, it’s the natural outcome of past’s complacency, and the rating agencies should not be blamed for downgrading these firms now, but for not having downgraded them before.

Macy’s Inc., the second-biggest U.S. department-store company, is headed into the holidays facing the possibility of losing its 11-year-old investment-grade rating.

Macy’s debt has started trading like a junk bond, a signal that ratings companies may demote the owner of Bloomingdale’s department stores to non-investment grade. That would increase the company’s cost of raising funds at a time when capital is increasingly difficult to come by and the retailer is preparing for about $1 billion in 2009 debt repayments.

“The last thing Macy’s needs at this point is a downgrade,” Pete Hastings, a fixed-income analyst with Morgan Keegan & Co. in Memphis, said today. “They’ve got enough trouble the way the economy is going, and this would just make things tougher for them.”

Junk Territory

The extra yield, or spread, that investors demand to own Macy’s 5.35 percent notes due 2012 instead of similar-maturity Treasuries was more than 15 percentage points yesterday, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.

That was greater than the 13.2 percentage-point spread on non-investment-grade BB rated bonds, according to Merrill Lynch & Co. index data. The spread on J.C. Penney Co.’s similarly rated debt due 2023 was 765 basis points. A basis point is 0.01 percentage point.

Moody’s Investors Service said Oct. 15 that it had a “negative” outlook on Macy’s Baa3 rating — the lowest investment grade — meaning it was more inclined to downgrade the retailer. Standard & Poor’s Corp. did the same on Oct. 10. They may next put Macy’s on review for a downgrade, or simply cut ratings without the interim step.

`Not Ordinary Times’

“Ordinarily they wait until the holiday season is over to make changes to retailing ratings, but these are not ordinary times,” Carol Levenson, an analyst with Gimme Credit LLC in Chicago, said Oct. 15. “Given the agencies’ waning credibility in other areas, they may be quicker to pull the trigger on marginal names such as Macy’s than they would have been before the credit crisis.”

The company plans to pay off debt due next year with cash and may use its $2 billion credit facility, he said. It has borrowed $150 million, he said.

That plan may impair the retailer, Hastings said in a telephone interview.

“If they use cash on the balance sheet to reduce debt to keep the investment grade, they would have less flexibility to weather the downturn,” he said.

Sales at stores open at least a year may fall as much as 6 percent in the fourth quarter, after dropping in 10 of the last 11 quarters, Macy’s said.

A rating downgrade can depresses demand for bonds because some funds prohibit investing in junk. The rating increases borrowing costs by forcing the company to offer investors a higher interest rate to assume more risk.

Macy’s would be joining General Motors Corp. and a growing number of so-called fallen angels — former investment-grade companies. There were 40 as of Nov. 11, compared with 29 a year earlier, according to an S&P report. Fifty-seven more, including Macy’s, are at risk of being downgraded to speculative grade, S&P said.

Macy’s, which runs more than 850 stores, has $350 million of bonds coming due in April and about $600 million in July, according to data compiled by Bloomberg.

The retailer’s ratio of debt to earnings before interest, taxes, depreciation and amortization — a measure of earnings that the credit rating companies track — rose to 3.17 times in the third quarter, from 3.04 times a year earlier. Junk-rated Sears has a ratio of 1.82.

Will Citigroup survive this crisis? It depends entirely on the government. If the government shows hesitancy, they are doomed.

Citigroup Inc. fell as much as 25 percent in New York trading, after losing almost a quarter of its value yesterday, as concern intensified that the U.S. recession will generate losses and weaken demand for financial services.

Citi, down for eight of the past nine trading days, declined 81 cents to a 13-year low of $5.59 on the New York Stock Exchange at 1:09 p.m. The stock, which fell as low as $4.76, slumped even after Saudi billionaire Prince Alwaleed bin Talal said he would boost his stake in the New York-based bank.

Chief Executive Officer Vikram Pandit said this week Citigroup will cut 52,000 jobs in the next year, double the target announced in October, as loan losses surge and the economy shrinks. JPMorgan Chase & Co., the largest U.S. bank, plans to fire about 10 percent of its investment-banking staff, or about 3,000 people, a person familiar with the bank said today. Its shares dropped $3.35, or 12 percent, to $25.12.

Citigroup has lost about $20 billion in the past four quarters as bad loans increased and demand for banking services declined. Analysts surveyed by Bloomberg expect a $673 million deficit for the fourth-quarter.

U.S. Aid

The world’s biggest finance companies have taken almost $1 trillion in writedowns and losses since the credit markets seized up last year. The U.S. has injected more than $200 billion into the top U.S. banks and insurance companies to shore up their finances, and analyst Paul Miller at FBR Capital Markets in Arlington, Virginia, said as much as $1 trillion may be needed.

Jobs, Cars

The U.S. unemployment rate rose to 6.5 percent in October, the highest since 1994, as companies slashed payrolls, the Labor Department said this month. Auto sales plunged 32 percent, manufacturing contracted at its fastest pace in 26 years and consumer confidence fell by the most on record during the month.

The irrational and disastrous expansion of the TARP is continuing. The latest is GMAC. It is obvious that if he could, Mr. Bernanke would save the entire wreck of the financial system of today, and perpetuate it to the next decade. Sadly for him, but fortunately for the US, I suspect that even he can’t save the reckless lenders of these years.

-GMAC LLC, the largest lender to General Motors Corp. car dealers, has applied for status as a bank holding company so it can get access to the Treasury’s $700 billion rescue fund for the financial industry.

The lender also began an exchange offer for $38 billion of notes issued by the company and its Residential Capital LLC home lending unit to reduce outstanding debt levels, Detroit-based GMAC said today in a statement.

GMAC joins money-losing commercial lender CIT Group Inc. in trying to shore up its finances to gain bank status. That may help GMAC quell doubts about its survival after home foreclosures pressured the mortgage unit and GM’s auto sales plummeted to the worst level since 1945. GMAC may also be able to obtain U.S. government guarantees on new debt as a bank.

“If you let this many people participate, the benefit gets so diluted you haven’t done a lot of good,” said Peter Sorrentino, a senior portfolio manager at Cincinnati-based Huntington Asset Advisors. “You can’t save everybody. That’s the hard call.”

Meanwhile the future of GM looks more ominous by the day. The issue is whether it can survive until the next handout under the Obama administration. It’s unclear to me, whether they can do so.

General Motors Corp., the largest U.S. automaker, probably has weeks rather than months left before it runs out of cash without federal aid, said Jerome York, an adviser to billionaire Kirk Kerkorian and former GM board member.

Chief Executive Officer Rick Wagoner “all but said” at congressional hearings in the past two days that GM can’t continue to operate until a new U.S. administration takes over in January, York said in a Bloomberg Television interview today.

GM, Ford Motor Co. and Chrysler LLC should develop a detailed plan for sustained operations and present it to Congress as a condition of receiving support, with “chains” rather than “strings” attached, York said.

U.S. lawmakers after hearing from Wagoner, Ford chief Alan Mulally and Chrysler CEO Robert Nardelli remain deadlocked on an auto-industry bailout. Democratic congressional leaders disagreed with Republicans and President George W. Bush’s administration over how to provide $25 billion in aid to the three companies, with just two days left in Congress’ lame-duck session.