Ambrose Evans-Pritchard: The global slump has begun as poison spreads
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(Sun, 11 May 2008 23:38:41 -0500 (CDT)) --- 07:53PM ET Sunday, May 11, 2008 Ambrose Evans-Pritchard: The global slump has begun as poison spreads
By Ambrose Evans-Pritchard The Telegraph, London Monday, May 12,
2008
The avalanche of bankruptcies has begun. Six US companies of substance
have defaulted on bonds over the past fortnight, against 17 for the
whole of last year.
As a "non-believer" in the instant rebound story, I am not easily
shocked by gloomy reports. But the latest note by Standard & Poor's
-- "The Bust After The Boom" -- gave me a fright.
The sick list is varied, though most for now are victims of the
housing crash: Linens 'n Things, ($650 million), Kimball Hill ($703
million), Home Interiors ($310 million), French Lick Resorts ($142
million), Recycled Paper Greetings ($187 million), and Tropicana
Entertainment ($2.49 billion).
As the Fed's latest loan survey makes clear, lenders have dropped
the guillotine. With the usual delay, the poison is spreading from
banks to the real world.
Diane Vazza, S&P's credit chief, says defaults are rising at almost
twice the rate of past downturns. "Companies are heading into this
recession with a much more toxic mix. Their margin for error is
razor-thin," she said.
Two-thirds have a "speculative" rating, compared to 50 percent
before the dotcom bust, and 40 percent in the early 1990s. The
culprit is debt. "They ramped it up in the last 18 months of the
credit boom. A lot of deals were funded that should not have been
funded," she said.
Some 174 US companies are trading at "distress levels." Spreads on
their bonds have rocketed above 1,000 basis points. This does not
cover the carnage among smaller firms outside the rating universe.
The California city of Vallejo (117,000 inhabitants) has just made
history by opting for Chapter 9 bankruptcy, the result of tax erosion
from a 26 percent fall in local house prices. Half Moon Bay may be
next.
"This is the tip of the iceberg. Everybody is going to line up for
Chapter 9 in California," said John Moorlach, Orange County board
chief.
US consumers are juggling plastic to put off their day of reckoning.
The Fed survey said credit card debt had jumped 6.7 percent in the
first quarter to $957 billion, or $6,000 per working American,
despite usury rates near 20 percent.
"My guess is that many Americans continue to run up massive credit
card debt because they have little intention of paying it off,"
said Peter Schiff at Euro Pacific Capital. Quite.
Thankfully, the Fed's monetary blitz has averted a depression.
Emergency lending under the "unusual and exigent circumstances"
clause of the Fed Act -- the nuclear Article 13 (3), unused since
the 1930s -- has put a floor under the banking system.
There will be no "reset Armaggedon" as rates vault on honey-trap
mortgages. Drastic Fed cuts -- to 2 percent from 5.25 percent in
September -- have conjured away that disaster, at least.
One dreads to think what would have happened if Fed liquidationists
(Plosser, Hoenig, Fisher) had prevailed, as they did in 1930 -- and
still do in Euroland, where Germany's Axel Weber holds sway, and
nobody of sense dares lead a mutiny.
Despite the rescue, US house prices are likely to fall 25 percent
from peak to trough (Lehman Brothers, Goldman Sachs). We are barely
half done, yet 10 to 12 million households are in negative equity
already.
The bears at Societe Generale are going into Siberian hibernation,
issuing an "Ice Age" alert. They have slashed exposure to global
equities to a minimum 30 percent for the first time ever.
Their weighting of super-safe "AAA" government bonds has been raised
to a maximum 50 percent. This is a bet on gruelling "Japanese"
deflation. The bank expects equities to fall by 50 to 75 percent.
"Nowhere and nothing will be immune. We are on the cusp of an equity
meltdown that will slash and shred portfolios," said Albert Edward,
SG's global strategist.
"We see a global recession unfolding. Liquidity will drain away and
crush the twin emerging market and commodity bubbles. The recent
hope that 'the worst might be over' is truly staggering. Profits
are disintegrating," he said.
Today's "bear rally" may live on into June. Don't count on it.
Global bourses are no longer rising hand-in-hand with oil in exuberant
celebration of liquidity relief (US, UK, and Canadian rate cuts).
Crude ceased to be a friend of equities when it reached around $110
a barrel. At last week's close of $126, it became an outright threat.
The Bush rescue package -- $800 in rebate cheques per household --
has been rendered null and void by the latest spike. The average
US home is now spending over 8 percent of income on energy or fuel.
OPEC is playing with fire by refusing to pump more oil to offset
rebel attacks in Nigeria. The cartel's output drop of 350,000 barrels
a day in April is a hostile act at this point.
But there again, why should Middle Eastern states help America as
long as the White House keeps filling the US petroleum reserve to
prepare for war with Iran? Bush is playing with fire too.
The oil spike will burn itself out. China has hit the buffers. With
inflation at 8.5 percent, it risks political turmoil. Moreover, it
has repeated Japan's mistakes in the 1980s, building too many
factories shipping too many goods at slender margins into a crumbling
export market.
Lehman Brothers' Sun Mingchun says China will tip over in the second
half of this year. "With so much latent overcapacity, an export-led
slowdown could trigger a chain reaction which, in the worst case,
could threaten the stability of [its] financial and economic system,"
he said.
Britain, Europe, Japan, and China will go down before America comes
back up. This is turning into a synchronised bust, after all. The
Global Slump of 2008-09 is under way.
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