Conclusion: Liquidity continues to weaken in European debt and loan markets, and Asia and the U.S. are starting to correlate.
As a leading indicator for equity markets, credit markets globally cotinue to flash warning signs. Rates are increasing and spreads are widening as markets proactively adjust to the new reality of credit worthiness in the interconnected global market place.
In the chart below, we’ve highlighted Eurozone liquidity which is measured by recourse to the ECB over night deposit facility. In effect, banks are basically warehousing every Euro bill they can find, rather than lending in Euros. And this is occuring at pace not seen late 2008.
Coincident with this is Euro Libor continuing to widen, currently at a 2010 high of 0.65%. This means one thing: liquidity is getting worse, not better. Despite what the Fiat Fools (politicians) might be saying.
Also related to Eurozone liquidity is this excerpt form the newswires in reference to Spanish Banks:
“Elsewhere in the Spanish financial sector, newspaper Cinco Dias is reporting that second tier Spanish banks are being frozen out of the European interbank market and that only the largest institutions are managing to finance their operations smoothly, adding that the situation has worsened since the start of the week.”
While liquidity issues are clearly most prevalent in the Eurozone, they have natural derivative effects. The most obvious is a decline of purchasing power, and thus slowing import demand. (Note: 1/3 of U.S. exports go the Eurozone.) This will obviously lead to slower growth in the U.S. on the margin, but also slower growth in Asia. Since loans and investments in Asia, specifically China, are predicated on high projected growth rates, a European credit crunch potentially has very negative impacts on Asian banks, and their growth based economies.
In fact, we are already starting to see Asian Sovereign Debt spreads widen dramatically, even if not at Eurozone levels. Chinese CDS spreads have almost doubled in the last 30 days.
In the U.S., one of the best proxies for short term liquidity is the commercial paper market. The current 7 day commercial paper market in the U.S. hit levels of 0.61%, which are the highest levels since the equity market sell off in March 2009. There is an estimated $670 billion of commercial paper maturing over the next couple of months, which will be reset at these higher rates. The chart of 7 day commercial paper is outlined below.
The world is interconnected, and to believe that the issues in Europe are isolated would be naïve at best – which is exactly what the credit markets are telling us.
Daryl G. Jones