“This sort of political brinkmanship is the dominant reason
the rating is no longer ‘AAA’” – S&P ratings agency in a research
note.By Wolf Richter: S&P, a unit of McGraw Hill Financial, is already famous for having had the balls to strip the US of its AAA sovereign credit rating in 2011 when the debt-ceiling fight in Washington – an inexplicable charade for observers overseas – turned from silly grandstanding to utter brinkmanship, fired on by convoluted political brainstorms and upcoming primary elections.
In retaliation, or so S&P claimed, and to teach all ratings agencies a lesson they’d hopefully never forget, the Department of Justice has put S&P through the wringer and in February sued it – deservedly – over its role in the financial crisis, i.e. for allegedly misleading financial institutions about the validity of its ratings. AAA-rated mortgage-backed securities as the underlying mortgages were already defaulting? No problem. The DOJ accused S&P of, among other things, having inflated ratings to pocket fatter fees from issuers.
The other ratings agencies, which all played a similarly egregious role in the financial crisis but kept their mouth shut and did not downgrade the US in 2011, have not been hounded by the government. So S&P claimed that the “impermissibly selective, punitive and meritless” lawsuit was “in retaliation for defendants’ exercise of their free speech rights with respect to the creditworthiness of the United States of America.”
S&P still hasn’t learned its lesson apparently and is once again lambasting Washington’s “political brinkmanship.” So it wrote in a research note, according to CNBC: “In our opinion, the current impasse over the continuing resolution and the debt ceiling creates an atmosphere of uncertainty that could affect confidence, investment, and hiring in the U.S. However, as long as it is short-lived, we do not anticipate the impasse to lead to a change in the sovereign rating.”
As long as it’s short-lived. But if the shutdown drags on, the impact could be “more significant” than during the government shutdown in the mid-nineties.
More ominously, S&P warned that if Congress failed to pass a debt-ceiling hike before the out-of-money date in mid-October, it would cut the U.S. to “selective default.”
Selective default isn’t exactly the end of the world, but close. It “indicates the issuer ... had failed to meet one or more of its outstanding debt obligations.” S&P explained that it “would analyze the changes in the political and economic landscape in determining a post-default rating,” but typically, it warned, a selective default ends up knocking credit ratings to “between CCC and B.”
JUNK!Despite the 14th Amendment to the Constitution – the validity of the public debt “shall not be questioned” – everyone would question the validity of US public debt. The US would become the laughingstock of the rest of the world. Countries like Cyprus and Greece would grin from ear to ear. And the financial markets would swoon.
Of course, if all else fails, the Justice Department could always file another huge multibillion-dollar lawsuit against McGraw Hill Financial, say next week, to put an end to this downgrade business once and for all. Problem solved. In that case, the US could quietly default without downgrade and without swoon in the markets or something. Sort of like the securities on which S&P had slapped its AAA just before they collapsed.
If Congress really wanted to do something useful, it could work on lowering the deficit instead of getting tangled up in the bizarre shenanigans of spending money no one has and then refusing to let the Treasury borrow the money required to fund those expenditures.
And this while Blackstone’s global head of private equity, Joseph Baratta, said Thursday night that “we” were “in the middle of an epic credit bubble,” the likes of which he hadn’t seen in his career. He knew whereof he spoke. Junk bond issuance hit an all-time record in September. IPOs are flying off the shelf. But earnings growth is grim – and plunging. What gives?
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Bubble Trouble: Record Junk Bond Issuance, A Barrage Of IPOs, “Out Of Whack” Valuations, And Grim Earnings Growth
By Wolf Richter: When Blackstone’s global head of private equity, Joseph Baratta, said Thursday night that “we” were “in the middle of an epic credit bubble,” the likes of which he hadn’t seen in his career, he knew whereof he spoke.
Junk bond issuance hit an all-time record of $47.6 billion in September, edging out the prior record, set in September last year, of $46.8 billion, according to S&P Capital IQ/LCD. Year to date, issuance amounted to $255 billion, blowing away last year’s volume for this period of $243 billion. The year 2012, already in a bubble, set an all-time record with $346 billion. This year, if the Fed keeps the money flowing and forgets about that taper business, junk bond issuance will beat that record handily.
Junk-bond funds got clobbered in July and August as retail investors briefly opened their eyes and realized what they had on their hands and fled, and they went looking for yield elsewhere, but there was still no yield in reasonable places, and so they held their noses and picked up these reeking junk-bond funds again. Cash inflow doubled over the last week to $3.1 billion, the most in ten weeks.
These retail investors were fired up by the Fed’s refusal to taper even a little bit, giving rise to the hope that it might actually never taper, that this is truly QE Infinity, Wall Street’s wet dream come true – on the theory that the Fed is mortally afraid that any taper would blow over the sky-high financial-markets house of cards it has constructed over the last five years. And the retail cash returned to these junk-bond funds and just about refilled the hole that had been dug during the summer.
“The cost of a high-yield bond on an absolute coupon basis is as low as it’s ever been,” explained Baratta, king of Blackstone’s $53 billion in private equity assets. Even the riskiest companies are selling the riskiest bonds at low yields. The September frenzy hit the upper end too and set a new record: companies sold $145.7 billion in investment-grade bonds in the US. And Baratta complained that valuations “relative to the growth prospects are out of whack right now.”
These “growth prospects” look grim, with corporate revenues barely keeping up with inflation, and with earnings growth, despite all-out financial engineering, getting decimated. On October 1 last year, earnings estimates for the third quarter 2013 still saw a growth of 15.9%. As of Friday, estimated earnings growth had plunged to 4.6%, dropping 20 basis points per week in August and 10 basis points per week in September. And they may still be too optimistic.
Meanwhile, earnings growth estimates for the fourth quarter have barely budged since August and remain at the deliriously lofty level of 11.1%, pulled up largely by financials, whose earnings growth is still pegged at a breath-taking 25.7%, based on the assumption that the Fed will continue to feed them.
But financials are having some, let’s say, issues. The five biggest banks alone face a $1 billion cut in earnings from just the past month, based on a big decline in fixed-income trading revenues – with our special friend, JPMorgan, eating more than half of it. There had been “hopes of a final trading flurry in the last few weeks of the quarter,” the FT observed, but those hopes have now been squashed.
Then there is the death of the mortgage refi bubble that has been hammering banks, with number one mortgage lender Wells Fargo suffering the most. Four banks have so far announced 7,000 layoffs in their mortgage divisions. JPMorgan confessed that it would lose money in its mortgage business in the second half. On top of that, JPMorgan is contemplating $11 billion in legal settlements for its various mortgage scams. And earnings at financials are still expected to grow 25.7% in the fourth quarter?
“Out of whack” is what Baratta called this phenomenon of sky-high valuations in relationship to grim growth prospects.
Earnings estimates have been slow in coming down. And the stock market, supposedly forward looking and focused on corporate revenues and earnings, has been completely blind to them. It follows the mantra that fundamentals no longer matter. All that matters is the Fed. A shift that has become the Fed’s most glorious accomplishment. And the Fed continues to feed Wall Street with $85 billion a month.
Yet in this glorious environment where there is no gravity for stocks and even junk bonds, the smart money is selling hand over fist, unloading whatever they can, however they can. Record junk bond issuance is just one aspect. Another aspect: IPOs. They have gone haywire.
There were 23 IPOs in May, 20 in June, 17 in July (Independence Day put a damper on it), 19 in August, and 21 in September. But last week alone, there were 12 IPOs – more than two per day! Generally, IPOs are scheduled apart to avoid overloading the market. But now the smart money is scrambling to issue paper while it still can and stuff it into the portfolios of retail investors at current “out of whack” valuations, stocks and bonds alike, before the Fed turns off its crazy money spigot, and before investors will finally open their eyes to the grim earnings reality.
Why would anyone buy this crap? No, not the clothes in J.C. Penny’s stores – which practically no one is buying – but the shares it sold on Friday. It desperately needed to raise capital because it’s bleeding cash and won’t be around much longer without lots of new cash to bleed. So it did. At a horrendous expense, overnight, to existing stockholders, and at a steep loss for the new ones.
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Art by WB7
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