Stop chewing over last year’s ill, and start worrying about next year’s. So comes the message from BarCap’s Tim Bond.
Conditions seem to be in place for a gradual easing in the credit crsis over the remainder of the year. There’s been a shift in the perception of bank credit risk, clearly visible in the CDS market. To a lesser extent, this improved perception is also visible in the cash bond market. Spreads in the money market have tended to follow these movements with a lag of about a month, adds Bond.
It would be wrong to inevitably anticipate a dramatic and immediate reversal of money market tensions, but the odds do seem to favour the idea that an inflexion point has occurred. We would further highlight that US banks appear to have stepped up their acquisition of customer deposits.
Capital has been flooding into the banking system. BarCap’s look back at 1990-2 and 2001-2003 indicates that banks start easing again long before the peak in defaults is seen.
Of course, historical comparisons can be a source of comfort or a new way to fray the nerves. Citi, in a mammoth report this week, ask whether history tells us financial stocks have hit the bottom. Looking back at previous non-systemic tension in the banking sector they conclude that market indicators (share price slump, steeper yield curves and wider credit spreads) would suggest a buy, but real world measures (i.e defaults) suggest it is still to early. If you must go back in stick with the US concludes Citi, where recapitalisations have run further and the central bank has moved more aggressively.
Now back to the future. If signs of an easing of credit constraints does become evident in the latter part of this year, is that good news?
Not, says Bond, if it is masking other problems, like the current mix between growth, employment and inflation. If the US is experiencing simultaneous inflation and credit shocks, with fiscal and monetary policy trained exclusively on the former, then a return to growth raises the risk of substituting an inflationary crunch for the credit variant. It may be that, dire predictions aside, the severity of the US downturn is not enough to tame the global resource price pressures.
Only a handful of asset classes produced a positive real return during the last inflation crisis of 1970-80. These asset classes included banks, basic resources, energy and industrial goods equity sectors, physical oil and physical commodities. All other asset classes suffered negative real returns in that decade. Property also produced a moderately positive real return, although it would be a brave investor to expect a similar performance this decade. The general point to be borne in mind is that high inflation is cruel to the owner of financial assets, but kindly to the potential buyer. Overall, if the global economy has struggled out of the frying pan of the credit crunch, it seems destined to fall into the fire of high inflation.
