Investing in Hard Assets Critical as Next Major Economic Breakdown Looms
Sovereign debt levels are out of control. Consider getting money out of the system and into assets like gold, silver before the onset of a massive financial-currency-debt crisis.
Alas, predictions are tricky, especially about the future (credit: Yogi Berra), but here's why I am convinced that the next big break is drawing near.
In order for the financial system to operate, it needs continual debt expansion and servicing. Both are important. If either is missing, then catastrophe can strike at any time. And by "catastrophe" I mean big institutions and countries transiting from a state of insolvency into outright bankruptcy.
In a recent article, I noted that the IMF had added up the financing needs of the advanced economies and come to the startling conclusion that the combination of maturing and new debt issuances came to more than a quarter of their combined economies over the next year. A quarter!
I also noted that this was just the sovereign debt, and that state, personal, and corporate debt were additive to the overall amount of financing needed this next year. Adding another dab of color to the picture, the IMF has now added bank refinancing to the tableau, and it's an unhealthy shade of red:
Banks face $3.6 trillion "wall" of maturing debt: IMF
(Reuters) - The world's banks face a $3.6 trillion "wall of maturing debt" in the next two years and must compete with debt-laden governments to secure financing, the IMF warned on Wednesday.
Many European banks need bigger capital cushions to restore market confidence and assure they can borrow, and some weak players will need to be closed, the International Monetary Fund said in its Global Financial Stability Report.
The debt rollover requirements are most acute for Irish and German banks, with as much as half of their outstanding debt coming due over the next two years, the fund said.
"These bank funding needs coincide with higher sovereign refinancing requirements, heightening competition for scarce funding resources," the IMF said.
When both big banks and sovereign entities are simultaneously facing twin walls of maturing debt, it is reasonable to ask exactly who will be doing all the buying of that debt? Especially at the ridiculously low, and negative I might add, interest rates that the central banks have engineered in their quest to bail out the big banks.
Greek T-Bill Sale Fails to Allay Fear
Greece's Public Debt Management Agency paid a high price to sell €1.625 billion of 13-week Treasury bills at an auction Tuesday, amid persistent speculation that the country will have to restructure its debt.
The 4.1% yield paid by Greece, which means it now pays more for 13-week money than the 3.8% Germany currently pays on its 30-year bond, is likely to increase concern over the sustainability of Greece's debt-servicing costs.
Greek debt came under heavy selling pressure Monday after it emerged that the country had proposed extending repayments on its debt, pushing yields to euro-era highs.
Greek two-year bonds now yield more than 19.3%, up from 15.44% at the end of March.
With Greek 2-year bonds now yielding over 19%, the situation is out of control and clearly a catastrophe. When sovereign debt carries a rate of interest higher than nominal GDP growth, all that can ever happen is for the debts to pile up faster and faster -- clearly the very last thing that one would like to see if avoiding an outright default is the desired outcome. How does more debt at higher rates help Greece?
It doesn't, and default (termed "restructuring" by the spinmasters in charge of everything...it sounds so much nicer) is clearly in the cards. The main question to be resolved is who is going to eat the losses -- the banks and other major holders of the failed debt, or the public? I think we all know the most likely answer to that one.
"Contagion" is the fear here. With Ireland and Portugal already well down the path towards their own defaults, it is Spain that represents a much larger risk because of the scale of the debt involved. Spain is now officially on the bailout watch list, because it has denied needing a bailout, which means it does.
Spain is now at the "grasping at straws" phase as it pins its hopes on China riding to the rescue:
European officials are hoping that the bailout for Portugal will be the last one, and debt markets have broadly shown both Spain and Italy appear to be succeeding in keeping investors' faith.
Madrid is hoping for support from China for its efforts to recapitalize a struggling banking sector and there were also brighter signs in data showing its banks borrowed less in March from the European Central Bank than at any point in the past three years.
If Spain is hoping for a rescue by China, it had better get their cash, and soon. As noted here five weeks ago in "Warning Signs From China," a slump in sales of homes in Beijing in February was certain to be followed by a crash in prices. I just didn't expect things to be this severe only one month later:
Beijing March New House Prices Plunge 26.7% M/M
BEIJING (MNI) - Prices of new homes in China's capital plunged 26.7% month-on-month in March, the Beijing News reported Tuesday, citing data from the city's Housing and Urban-Rural Development Commission.
Average prices of newly-built houses in March fell 10.9% over the same month last year to CNY19,679 per square meter, marking the first year-on-year decline since September 2009.
Home purchases fell 50.9% y/y and 41.5% m/m, the newspaper said, citing an unidentified official from the Housing Commission as saying the falls point to the government's crackdown on speculation in the real estate market.
March Home Transactions in 30 Major Cities Fall 40.5% Y-o-Y
Housing transactions in major Chinese cities monitored by the China Index Research Institute (CIRI) dropped 40.5% year-on-year on average in March, a month when home buying typically enters a seasonal boom period.
Transactions rose month-on-month in 70% of the cities monitored, including five cities where transactions were up by more than 100% on a month earlier, secutimes.com reported on Wednesday, citing statistics from the CIRI. [Author's note: month-on-month not useful for transactions as volumes have pronounced seasonality]
Beijing posted a decrease of 48% from a year earlier; cities including Haikou, Chengdu, Tianjin and Hangzhou saw drops in their transaction volumes month-on-month, according to the statistics.
Meanwhile, land sales fell 21% quarter-on-quarter to 4,372 plots in 120 cities in the first quarter of 2011; 1,473 plots were for residential projects, the statistics showed.
The average price of floor area per square meter in the 120 cities dropped to RMB 1,225, down 15% m-o-m, according to the statistics.
Real estate is easy to track because it always follows the same progression. Sales volumes slow down, and people attribute it to the "market taking a breather." Then sales slump, but people say "prices are still firm," trying to console themselves with what good news they can find in the situation. Then sales really drop off, and prices begin to move down. That's where China currently is. What happens next is also easy to "predict" (not really a prediction because it always happens), and that is mortgage defaults and banking losses, which compound the misery cycle by drying up lending and dumping cheap(er) properties back on the market.
In that report back in March, I also wrote this:
If China enters a full-fledged housing crash, then it will have some very serious problems on its hands.
A collapse in GDP would surely follow, and all the things that China currently imports by the cargo-shipload would certainly slump in concert.
This is another possible risk to the global growth story that deserves our close attention. How this will impact things in the West remains unclear, but we might predict that China would cut way back on its Treasury purchases if it suddenly needed those funds back home to soften the blow of an epic housing bust.
If a more normal ratio for a healthy housing market is in the vicinity of 3x to 4x income, then China's national housing market is overpriced by some 60% and certain major markets are overpriced by 80%.
Which means that the entire banking sector in China is significantly exposed.
The reason we care if China experiences a housing bust is the turmoil that will result in the global commodity and financial markets as a result. Everything is tuned to a smooth continuation of present trends, and China experiencing a housing bust would be quite disruptive.
If Spain is hoping for a big cash infusion from China and/or Chinese banks, it had better get its hands on that money quick. China is barreling toward its own full-fledged real estate crisis, which will drain its domestic liquidity just as surely as it did for the Western system, and probably even more quickly, given the stunning drop-offs in volumes in prices.
However, I should note that the United States housing market hit its peak (according to the Case-Shiller Index) in July of 2006, and it was a year and a month before the first cracks appeared in the financial system, so perhaps there's some time yet for Spain to cling to its hopes.
The larger story here is how a real estate slump in China will impact global growth, which absolutely must continue if the debt charade is to continue.
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