Guest Post: Foreigners Bail On Agencies
Foreigners Bail On Agencies
Submitted by Jim Bianco of Arbor Research
Last night the New York Federal Reserve reported its custody account holdings of agencies (red line, bottom panel) dropped $45.972 billion, or -5.8%, in the week ending Wednesday, September 22. Both measures are a weekly record decline.
At the same time, custody holdings of Treasuries (blue line, top panel) increased by $49.657 billion, or 2.06%. This is a nominal record and the largest percentage increase in two years (since Oct 8, 2008).
We have heard/read no explanation or color about this decline. So we cannot say whether this massive shift out of agencies and into Treasuries means foreigners are “running scared” from agencies or if this is simply some kind of technical adjustment.
That said, let us remind everyone that foreigners dropped agency securities in a similar manner in the summer of 2008, just before the crisis. This exodus, we believe, directly led to the placing of Fannie and Freddie into a conservatorship, which kicked off the “beginning of the end.” As we explained last year:
In early 2008/late 2007 Fannie Mae and Freddie Mac started regularly reporting financial statements after a four-year absence due to an accounting scandal. As part of the agreement with their regulator OFHEO (now FHFA), Fannie and Freddie would also release a “fair value” balance sheet. Only May 14, 2008 Freddie Mac issued its Q1 2008 10-Q. It showed that Freddie Mac had a negative equity position on March 31. We discussed this in detail back on July 14, 2008, concluding with:
Let us repeat, Freddie Mac was insolvent by this measure on March 31, 2008. Q1 financial statements detailing this were released on May 14. So, it is not a secret and technically it is not new. What appears to be new is the epiphany the market had in the last several weeks. See a chart of Freddie Mac’s stock, it plummeted from about $27 on May 14 to $7.75 on Friday.
Maybe the emotional move is not the selling of the last two weeks. Maybe it was the optimism about these companies until two weeks ago. If so, regulators and company officials need to explain why the market is wrong to use the fair value balance sheet as a “leading indicator” of their upcoming financial statements. So far, they have not touched this topic.
We believe these statements, combined with no official explanation of what they meant, scared foreign investors out of agency debt in the summer of 2008. In an attempt to pacify foreign debt holders, Hank Paulson put Fannie and Freddie into conservatorship. Unfortunately, this only accelerated the crisis because of Paulson’s disastrous decision to bankrupt the preferred shareholders of Fannie and Freddie. Bankrupting the Fannie/Freddie preferred shareholders threw the financial preferred stock market into chaos, meaning companies like Lehman lost any chance of getting funding. From there it was all downhill.