Credit Risk Overhanging The World

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The three credit events that have our attention remain our key watches.

Firstly credit spreads on corporate bonds.

U.S. high-yield spreads (to Treasuries) and CDS have also turned more closely correlated to Chinese Credit developments.

October 1 – Bloomberg (Adam Tempkin and Charles Williams): “Sales of U.S. collateralized loan obligations reached a fresh annual record on Friday, topping $131 billion, as investors clamor to buy securities that offer high ratings and protection against inflation. New issuance surpassed 2018’s record of $130.4 billion, and may not slow down in the coming months. Some banks are projecting that CLO sales can go as high as $160 billion, and there are some 200 short-term credit lines funding upcoming transactions.”

The second the world’s most indebted developer, China Evergrande Group shares and bonds.

Evergrande has over $300 billion of debt. Creditors are banks and non-bank financial institutions, domestic and international bond holders, suppliers and apartment buyers. It has bank borrowings of $90 billion, including from Agricultural Bank of China, China Minsheng Banking Corp and China CITIC Bank Corp (reports have 128 banks with exposure). Thousands of suppliers are owed around $100 billion. Evergrande and the faltering apartment Bubble remain a clear danger.

September 30 – Bloomberg: “China stepped in to buy a stake in a struggling regional bank from China Evergrande Group as it seeks to limit contagion in the financial sector from the embattled property developer. Evergrande agreed to sell a 20% stake in Shengjing Bank Co. to the local Shenyang government for 10 billion yuan ($1.55bn), with the bank demanding that all proceeds go to settle debts with the lender…”

September 28 – Reuters (Clare Jim and Jing Xu): “Beijing is prodding government-owned firms and state-backed property developers such as China Vanke Co Ltd to purchase some of embattled China Evergrande Group’s assets, people with knowledge of the matter said. Evergrande, saddled with $305 billion in liabilities, is teetering on the brink of collapse. But the central government is unlikely to intervene directly to resolve Evergrande’s crisis in the form of a bailout, according to six people, including four in government and regulatory bodies. Authorities are hoping, however, that asset purchases will ward off or at least mitigate any social unrest that could occur if Evergrande were to suffer a messy collapse, they said, declining to be identified due to the sensitivity of the matter.”

Evergrande Property Collapse

The third is massive monetary inflation, the Fed’s Q2 2021 Z.1 “flow of funds” report.

Treasury borrowings continue to command system Credit growth. Outstanding Treasuries gained nominal $359 billion during Q2 to a record $24.302 TN. Treasuries surged $6.487 TN, or 36%, over the past two years. Treasuries to GDP slipped slightly during the quarter to 107%. This ratio ended 2007 at 41% and was up to 87% prior to the pandemic.

Agency (GSE) Securities gained another $181 billion during the quarter to a record $10.408 TN. At $663 billion, one-year growth was the strongest since 2007. Agency Securities jumped $1.144 TN over the past two years. Combined Treasury and Agency Securities swelled an unparalleled $7.631 TN over two years to a record $34,709 TN (153% of GDP).

Total Mortgage borrowings rose $308 billion during the quarter, more than double Q2 2020 growth to the largest increase since Q3 2006 ($343bn). Home Mortgages rose $238 billion during Q2 (strongest since Q3 ’06) and $687 billion for the year (largest since 2006).

Household Assets jumped $6.196 TN, or 16.2% annualize, during Q2 to a record $159.342 TN. Household Assets inflated $24.269 TN over the past year. Household Liabilities rose $347 billion during the quarter to $17.674 TN, the strongest growth since Q1 2006. Liabilities were up $1.093 TN over four quarters, the strongest annual growth since 2006.

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