Rudi's View | Feb 09 2012
By Rudi Filapek-Vandyck, Editor FNArena
Risk assets have experienced a once-in-a-decade jumpstart into the new calendar year and increased liquidity (thank you ECB) plus improving economic data have been held responsible, finally providing the trigger to see a rapid return of risk appetite.
However, and this cannot be stressed often enough, the problem that is hanging in front of the global economy and financial risk assets is NOT about the economy here nor there, it's about banks' balance sheets and how continuous threats to banks' solvability is reining in the supply of credit across the globe.
Sounds complicated? Look at it from this perspective: economies thrive when businesses and consumers have access to debt, when there's less supply (of debt) this tends to have a negative effect as spending intentions and investments are being curtailed. Remember the immediate aftermath of the Lehman collapse when US banks refused to lend because they were worried about their own solvability? The same thing is now happening among European banks and one could argue the Europeans are, from a global perspective, more important than their US peers because they are -combined- four times bigger and they are important providers of credit to Emerging Countries, Asia in particular.
Less than two weeks ago, I wrote a story outlining the major threat to the global economy this year was potential significant impact from European banks protecting their balance sheets in Asia and elsewhere (see "Join Rudi's Journey: Let's Not Go Overboard", 1 February 2012). Today economists at Commonwealth Bank reiterate that warning. They too are uncomfortable with what is happening behind the surface of day-to-day news headlines in Europe and elsewhere.
Bottom line: CommBank economist have been collecting bank lending data over December and January and constructed various indices from these data to see where we're at. It's looking worrisome, to say the least.
One of the problems with tightening bank lending standards is that historically low official interest rates may not translate to low interest rates for businesses and consumers. Judging by the latest data-collecting exercise at CBA, this may be an understatement. On CBA's latest insights, "funding conditions in both local and international markets have deteriorated significantly in all emerging economy regions. Interestingly, banks in all emerging economies have tightened lending standards by more than the banks in the Eurozone."
The first chart below basically tells the story: loans to businesses and home owners in major economic regions have fallen off a cliff since December. Note that CBA has constructed indices according to the same methodology as used for the global PMI surveys: 50 is the neutral line. Everything below signals contraction.
The second chart below shows where the tightening is taking place: business credit. Only Japanese businesses seem to enjoy "normal" conditions.
The third chart below shows consumers looking for a mortgage are still ok in the US and in Japan, but not in Europe or any of the Emerging Economies.
The fourth chart below shows the current strains on trade finance in Emerging Markets.
Concludes CBA: "The improvement in the global economic data has contributed to market buoyancy. AUD and NZD have been beneficiaries of the buoyant market mood. However, bank’s tighter lending standards make us cautious about the global economic outlook, particularly given the spill over of the Eurozone’s problems into emerging Asia."
In above mentioned story from February 1 I wrote: If you are a long term investor, don't give up on your defensive exposure. I also wrote I can see the rationale to add more risk, as undervalued risk assets can potentially yield high returns in a short time span, but don't go overboard.
I think that latter part is worth repeating: don't go overboard. We have yet to find out what exactly the impact will be from these global lending constraints as a result of real threats to European banks balance sheets.
(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions.)
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P.S. II – If you are reading this story through a third party distribution channel and you cannot see charts included, we apologise, but technical limitations are to blame.
