Category Archives: Banking

Wells Just Reported Their Worst Mortgage Number Since The Financial Crisis

(Wells Fargo Earnings Supplement) When ZeroHedge reported Wells Fargo’s Q3 earnings back in October, they drew readers’ attention to one specific line of business, the one they have repeatedly dubbed the bank’s “bread and butter“, namely mortgage lending, and which as they then reported was “the biggest alarm” because “as a result of rising rates, Wells’ residential mortgage applications and pipelines both tumbled, sliding just shy of the post-crisis lows recorded in late 2013.”

Well, unfortunately for Wells, despite the sharp drop in yields in Q4 which many had expected would boost mortgage lending or at least refi activity for the bank that was until recently America’s largest mortgage lender, the decline in mortgage activity has continued,  because buried deep in its presentation accompanying otherwise unremarkable Q4 results (modest EPS best; sizable revenue miss), Wells just reported that its ‘bread and butter’ is once again missing, and in Q4 2018 the amount in the all-important Wells Fargo Mortgage Application pipeline shrank again, dropping to $18 billion, the lowest level since the financial crisis.

https://www.zerohedge.com/s3/files/inline-images/wells%20applications%20q4%202018.jpg?itok=KEVjN8iQ

Meanwhile, Wells’ mortgage originations number, which usually trails the pipeline by 3-4 quarters, was just as bad, dropping a whopping $12BN sequentially from $46 billion to just $38 billion, and effectively tied for the lowest print since the financial crisis.  Putting this number in context, just six years ago, when the US housing market was actually solid, Wells was originating 4 times as many mortgages, or about $120 billion.

https://www.zerohedge.com/s3/files/inline-images/Wells%20origiantions%20q4%202018.jpg?itok=26bJj1Sr

And since this number lags the mortgage applications, we expect it to continue posting fresh post-crisis lows in the coming quarter especially if rates resume their rise.

Going back to the headline numbers, here is a recap of the key metrics:

  • 4Q adj. EPS $1.21, est. $1.19
  • 4Q revenue $20.98 billion, Exp. $24.7BN
  • 4Q net interest income $12.64 billion
  • 4Q loans $953.11 billion vs. $942.3 billion q/q
  • 4Q mortgage non-interest income $467 million
  • 4Q residential mortgage originations $38 billion
  • 4Q margin on residential held-for-sale mortgage originations 0.89%
  • 4Q non- performing assets $6.95 billion
  • 4Q net charge-offs $721 million, estimate $736.8 million (BD)
  • 4Q total avg. deposits $1.27 trillion

There was more bad news for Wells. First, as the chart below shows, Noninterest Income has been a disaster and is only getting worse with virtually every revenue category posting Y/Y declines.

https://www.zerohedge.com/s3/files/inline-images/wells%20noninterest%20income%20q4%202018.jpg?itok=6nAL-W9q

Things were not better on the interest income side where the bank’s Net Interest Margin managed ended its recent streak of increases, and was unchanged at 2.94% resulting in $12.644 billion in Net Interest Income, and missing expectations of an increase to 2.95%. This is what Wells said: “NIM of 2.94% stable LQ as a benefit from higher interest rates and favorable hedge ineffectiveness accounting results were offset by the impacts of all other balance sheet mix and lower variable income.

https://www.zerohedge.com/s3/files/inline-images/NIM%20Wells%20Q4%202018.jpg?itok=WF4DdIH5

While Wells loss provisions declined modestly in Q4, its actual charge-offs jumped from $680MM to $721MM, the highest since Q1.

https://www.zerohedge.com/s3/files/inline-images/Wells%20charge%20offs%20q4%202018.jpg?itok=E1Jkk2Lr

There was another problem facing Buffett’s favorite bank: while NIM failed to increase, deposits costs are rising fast, and in Q4, the bank was charged an average deposit cost of 0.55% on $914.3MM in interest-bearing deposits, double what its deposit costs were a year ago.

https://www.zerohedge.com/s3/files/inline-images/wells%20deposit%20cost%20q4%202018.jpg?itok=NBzR9GZt

There was a silver lining however: amid concerns over the ongoing slide in the scandal-plagued bank’s deposits, which declined 3% or $40.1BN in Q3 Y/Y (down $2.3BN Q/Q) to $1.27 trillion, in Q4 Wells finally succeeded in getting a modest increase in deposits, which rose to $1.286 trillion, if still down 4% Y/Y. This was driven by growth in Wealth & Investment Management deposits driven by higher retail brokerage sweep deposits, “partially reflecting a change in our customers’ risk appetite, as well as higher private
banking deposits.” Offsetting this were declines in small business banking deposits, partially offset by growth in retail banking consumer deposits.

https://www.zerohedge.com/s3/files/inline-images/wells%20depositgs%20q4%202018.jpg?itok=sHfMWQmz

And some more good news: the recent ongoing shrinkage in the company’s balance sheet appears to have finally reversed, because one quarter after average loans declined from $944.3BN to $939.5BN, the lowest in years, and down $12.8 billion YoY, average loans outstanding increased fractionally to $946.3BN, up $6.8BN, or 1% Q/Q. This rebound was entirely due to commercial loans , which were up $7.7 billion LQ on higher commercial & industrial loans. Meanwhile, consumer loans continued to decline, and were down $835 million LQ as growth in nonconforming first mortgage loans and credit card loans was more than offset by declines in legacy consumer real estate portfolios including Pick-a-Pay and junior lien mortgage loans due to run-off and sales, as well as lower auto loans.

https://www.zerohedge.com/s3/files/inline-images/wells%20avg%20loans%20out.jpg?itok=JTJXxS5o

And finally, there was the chart showing the bank’s overall consumer loan trends: these reveal that the troubling broad decline in credit demand continues, as consumer loans were down a total of $13.7BN Y/Y across most product groups.

https://www.zerohedge.com/s3/files/inline-images/wells%20loans%20total%20q4%202018.jpg?itok=o07QLBIm

What these numbers reveal, is that the average US consumer can barely afford to take out a new mortgage even at a time when rates are once again sliding. It also means that if the Fed is truly intent in engineering a parallel shift in the curve of 2-3%, the US can kiss its domestic housing market goodbye.

Source: ZeroHedge

 

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Did Russia Just Trigger A Global Reserve Currency Reset Process?

Russia De-Dollarizes Deeper: Shifts $100 Billion To Yuan, Yen, And Euro

(Listen to the report here)

Russia is continuing to ramp up its efforts to move away from the American dollar (Federal Reserve Notes). The country just shifted $100 billion of its reserves to the yuan, the yen, and the euro in their ongoing effort to ditch the US Dollar.

The Central Bank of Russia has moved further away from its reliance on the United States dollar and has axed its share in the country’s foreign reserves to a historic low, transferring about $100 billion into euro, Japanese yen, and Chinese yuan according to a report by RT. The share of the U.S. dollar in Russia’s international reserves portfolio has dramatically decreased in just three months between March and June 2018. The holding decreased from 43.7 percent to a new low of 21.9 percent, according to the Central Bank’s latest quarterly report, which is issued with a six-month lag.

The money pulled from the dollar reserves was redistributed to increase the share of the euro to 32 percent and the share of Chinese yuan to 14.7 percent. Another 14.7 percent of the portfolio was invested in other currencies, including the British pound (6.3 percent), Japanese yen (4.5 percent), as well as Canadian (2.3 percent) and Australian (1 percent) dollars.

The Central Bank’s total assets in foreign currencies and gold increased by $40.4 billion from July 2017 to June 2018, reaching $458.1 billion. –RT

Russian and others have been consistently moving away from the dollar and toward other currencies. Economic sanctions, which are losing their power as more countries move from the dollar, and trade wars seem to be fueling the dollar’s uncertainty.

Peter Schiff warns that as the supply of dollars is going to grow and grow, the demand for the American currency can fall, while the US Fed will be unable to stop the dollar’s demise. Schiff says that what is coming for Americans, is massive inflation.

“Eventually, what’s going to happen is it’s going to be the demand for those dollars is going to collapse, not the supply. And when the demand for dollars collapses, then the price of the dollar collapses. You get massive inflation. That is what is coming.”

Russia began its unprecedented dumping of U.S. Treasury bonds in April and May of last year. Russia appears to be moving on from the rise in tensions with the United States. The massive $81 billion spring sell-off coincided with the U.S.’s sanctioning of Russian businessmen, companies, and government officials. But Russia has long had plans to “beat” the U.S. when it comes to sanctions by stockpiling gold.

The Russian central bank’s First Deputy Governor Dmitry Tulin said that Moscow sees the acquisition of gold as a “100-percent guarantee from legal and political risks.”

As reported by RT, the Kremlin has openly stated that American sanctions and pressure are forcing Russia to find alternative settlement currencies to the U.S. dollar to ensure the security of the country’s economy. Other countries, such as China, India, and Iran, are also pursuing steps to challenge the greenback’s dominance in global trade.

Source: ZeroHedge

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India Begins Paying For Iranian Oil In Rupees Instead Of US Dollars

Three months ago, in Mid-October, Subhash Chandra Garg, economic affairs secretary at India’s finance ministry, said that India still hasn’t worked out yet a payment system for continued purchases of crude oil from Iran, just before receiving a waiver to continue importing oil from Iran in its capacity as Iran’s second largest oil client after China.

https://www.zerohedge.com/sites/default/files/inline-images/iran%20oil%20clients_0.jpg?itok=DURuMPHn

That took place amid reports that India had discussed ditching the U.S. dollar in its trading of oil with Russia, Venezuela, and Iran, instead settling the trade either in Indian rupees or under a barter agreement. One thing was certain: India wanted to keep importing oil from Iran, because Tehran offers generous discounts and incentives for Indian buyers at a time when the Indian government is struggling with higher oil prices and a weakening local currency that additionally weighs on its oil import bill.

Fast forward to the new year when we learn that India has found a solution to the problem, and has begun paying Iran for oil in rupees, a senior bank official said on Tuesday, the first such payments since the United States imposed new sanctions against Tehran in November. An industry source told Reuters that India’s top refiner Indian Oil Corp and Mangalore Refinery & Petrochemicals have made payments for Iranian oil imports.

To be sure, India, the world’s third biggest oil importer, has wanted to continue buying oil from Iran as it offers free shipping and an extended credit period, while Iran will use the rupee funds to mostly pay for imports from India.

“Today we received a good amount from some oil companies,” Charan Singh, executive director at state-owned UCO Bank told Reuters. He did not disclose the names of refiners or how much had been deposited.

Hinting that it wants to extend oil trade with Tehran, New Delhi recently issued a notification exempting payments to the National Iranian Oil Company (NIOC) for crude oil imports from steep withholding taxes, enabling refiners to clear an estimated $1.5 billion in dues.

Meanwhile, in lieu of transacting in US Dollars, Iran is devising payment mechanisms including barter with trading partners like India, China and Russia following a delay in the setting up of a European Union-led special purpose vehicle to facilitate trade with Tehran, its foreign minister Javad Zarif said earlier on Tuesday.

As Reuters notes, in the previous round of U.S. sanctions, India settled 45% of oil payments in rupees and the remainder in euros but this time it has signed deal with Iran to make all payments in rupees as New Delhi wanted to fix its trade balance with Tehran.  Case in point: Indian imports from Iran totaled about $11 billion between April and November, with oil accounting for about 90 percent.

Singh said Indian refiners had previously made payments to 15 banks, but they will now be making deposits into the accounts of only 9 Iranian lenders as one had since closed and the U.S has imposed secondary sanctions on five others.

It’s all about control… Robert Fripp

Source: ZeroHedge

Are You Prepared For A Credit Freeze?

2, 3 and 5-Year Treasury Yields All Drop Below The Fed Funds Rate

Things are getting increasingly more crazy in bond land, where moments ago the 2Y Treasury dipped below 2.40%, trading at 2.3947% to be exact, and joining its 3Y and 5Y peers, which were already trading with a sub-2.4% handle. Why is that notable? Because 2.40% is where the Effective Fed Funds rate is, by definition the safest of safe yields in the market, that backstopped by the Fed itself. In other words, for the first time since 2008, the 2Y (and 3Y and 5Y) are all trading below the effective Fed Funds rate.

That the curve is now inverted from the Fed Funds rate all the way to the 5Y Treasury position suggests that whatever is coming, will be very ugly as increasingly more traders bet that one or more central banks may have no choice but to backstop risk assets and they will do it – how else – by buying bonds, sending yields to levels last seen during QE… i.e., much, much lower.

https://confoundedinterestnet.files.wordpress.com/2019/01/5eff.png?w=622&h=448

Explained…

Source: ZeroHedge

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Gold Soars Above $1,300; Nikkei, JGB Yields Tumble As Rout Goes Global

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The Bond Market Has Frozen: For The First Month Since 2008, Not A Single Junk Bond Prices

Late last week, we reported that in the aftermath of a dramatic drop in loan prices, a record outflow from loan funds, and a general collapse in investor sentiment that was euphoric as recently as the start of October, the wheels had come off the loan market which was on the verge of freezing after we got the first hung bridge loan in years, after Wells Fargo and Barclays took the rare step of keeping a $415 million leveraged loan on their books after failing to sell it to investors.

https://www.zerohedge.com/sites/default/files/inline-images/levloan%20index%2012.13.jpg

The two banks now “plan” to wait until January – i.e., hope that yield chasing desperation returns – to offload the loan they made to help finance Blackstone’s buyout of Ulterra Drilling Technologies, a company that makes bits for oil and gas drilling.

The reason the banks were stuck with hundreds of millions in unwanted paper is because they had agreed to finance the bridge loan whether or not there was enough demand from investors, as the acquisition needed to close by the end of the year. The delayed transaction means the banks will have to bear the risk of the price of the loans falling further, as well as costs associated with holding loans on their books.

The pulled Ulterra deal wasn’t alone.

As ZeroHedge reported previously, in Europe the market appears to have already locked up, as three loans were scrapped over the last two weeks. To wit, movie theater chain Vue International withdrew a 833 million pound-equivalent ($1.07 billion) loan sale. While the deal was meant to mostly refinance existing debt, around 100 million pounds was underwritten to finance the company’s acquisition of German group CineStar.

More deals were pulled the prior week when diversified manufacturer Jason Inc. became at least the fourth issuer to scrap a U.S. leveraged loan. Additionally, Perimeter Solutions also pulled its repricing attempt, Ta Chen International scrapped a $250MM term loan set to finance the company’s purchase of a rolling mill, and Algoma Steel withdrew its $300m exit financing. Global University System in November also dropped its dollar repricing.

Today, the FT picks up on the fact that the junk bond market – whether in loans or bonds – has frozen up, and reported that US credit markets have “ground to a halt” with fund managers refusing to fund buyouts and investors shunning high-yield bond sales as rising interest rates and market volatility weigh on sentiment (ironically it is the rising rates that assure lower rates as financial conditions tighten and the Fed is forced to resume easing in the coming year, that has been a major hurdle to floating-rate loan demand as the same higher rates that pushed demand for paper to all time highs are set to reverse).

Meanwhile, things are even worse in the bond market, where not a single company has borrowed money through the $1.2tn US high-yield corporate bond market this month according to the FT. If that freeze continues until the end of the month, it would be the first month since November 2008 that not a single high-yield bond priced in the market, according to data providers Informa and Dealogic.

Separately, as we already reported, the FT notes that in the loan market at least two deals – including the Barclays/Wells bridge loan – were postponed and could be the first of several transactions pulled from the market this year, bankers and investors said, as mutual funds and managers of collateralised loan obligations — the largest buyer by far in the leveraged loan sector — wait out the uncertainty.

https://www.zerohedge.com/sites/default/files/inline-images/CLO%20dec.jpg?itok=Zhenh08L

“This is clearly more than year-end jitters,” said Guy LeBas, a strategist at Janney Montgomery Scott. “What we’re seeing now is pretty typical for end-of-credit-cycle behaviour.”

A prolonged period of low interest rates since the financial crisis a decade ago has seen companies binge on cheap debt. However, as financial conditions have tightened, the high level of corporate leverage has raised widespread concern among regulators, analysts and investors.

In the loan market, it’s not a total disaster just yet, because even as prices have slumped over the past two months, banks that committed to finance highly leveraged buyouts – including JPMorgan Chase and Goldman Sachs –  have offered loans at substantial discounts to entice investors. As the chart below shows, the average new issue yield by month has exploded to the highest in years, with CCC-rated issuers forced to pay the most in 7 years to round up investor demand.

https://www.zerohedge.com/sites/default/files/inline-images/new%20issue%20yields.jpg?itok=VCSjIuLD

Still, as the following table from Bank of America shows, quite a few deals have priced, if only in the loan market:

https://www.zerohedge.com/sites/default/files/inline-images/loan%20issuance.jpg?itok=bafJsKvo(Click image to enlarge)

Even so, other banks including Barclays, Deutsche Bank, UBS and Wells Fargo, have had to pull deals altogether as they just couldn’t find enough buyers no matter how generous the concessions.

In addition to the Ulterra deal, technology services provider ConvergeOne postponed a $1.3bn leveraged loan offering that backed its takeover by private equity group CVC last week. As the FT notes, Deutsche Bank and UBS had marketed the deal to investors in a package that included senior and subordinated loans, with the junior debt expected to yield as much as 12 per cent in November when prices were first floated. While the banks attracted some bids for the debt, orders failed to surpass the overall size of the deal, which was postponed to the new year, according to people with knowledge of the transaction.

Why delaying deals into 2019? One word: hope.

One person familiar with the deal said the banks would market the loans again in January, when they hope market conditions will improve, and that other leveraged loans being marketed could be postponed to 2019.

The trouble lenders have faced in the leveraged loan market has mirrored the exasperation felt by investors in other asset classes. Higher-quality investment-grade bonds have also sold off, with a number of planned deals pulled from the market in recent weeks.

That said, for now the junk bond freeze and loan indigestion has remained confined to lower-rated issuers. However, that may change too, and should the “Ice-9” spread to the high-grade sector, where the bulk of issuance is to fund buybacks and M&A, that’s when the real pain begins.

Source: ZeroHedge

US Federal Reserve Bank’s Net Worth Turns Negative, They’re Insolvent, A Zombie Bank, That’s All Folks

While the Fed has been engaging in quantitative tightening for over a year now in an attempt to shrink its asset holdings, it still has over $4.1 trillion in bonds on its balance sheet, and as a result of the spike in yields since last summer, their massive portfolio has suffered substantial paper losses which according to the Fed’s latest quarterly financial report, hit a record $66.453 billion in the third quarter, raising questions about their strategy at a politically charged moment for the central bank, whose “independence” has been put increasingly into question as a result of relentless badgering by Donald Trump.

https://www.zerohedge.com/sites/default/files/inline-images/Fed%20P%26L%20dec%202018.jpg?itok=DRsSjcAj

What immediately caught the attention of financial analysts is that the gaping Q3 loss of over $66 billion, dwarfed the Fed’s $39.1 billion in capital, leaving the US central bank with a negative net worth…

https://www.zerohedge.com/sites/default/files/inline-images/Fed%20BS%2012.12.jpg?itok=f5WkIqu4

… which would suggest insolvency for any ordinary company, but since the Fed gets to print its own money, it is of course anything but an ordinary company as Bloomberg quips.

It’s not just the fact that the US central bank prints the world’s reserve currency, but that it also does not mark its holdings to market. As a result, Fed officials usually play down the significance of the theoretical losses and say they won’t affect the ability of what they call “a unique non-profit entity’’ to carry out monetary policy or remit profits to the Treasury Department. Indeed, confirming this the Fed handed over $51.6 billion to the Treasury in the first nine months of the year.

The risk, however, is that should the Fed’s finances continue to deteriorate if only on paper, it could impair its standing with Congress and the public when it is already under attack from President Donald Trump as being a bigger problem than trade foe China.

Commenting on the Fed’s paper losses, former Fed Governor Kevin Warsh told Bloomberg that “a central bank with a negative net worth matters not in theory. But in practice, it runs the risk of chipping away at Fed credibility, its most powerful asset.’’

Additionally, the growing unrealized losses provide fuel to critics of the Fed’s QE and the monetary operating framework underpinning them, just as central bankers begin discussing the future of its balance sheet. And, as Bloomberg cautions, the metaphoric red ink also could make it politically more difficult for the Fed to resume QE if the economy turns down.

“We’re seeing the downside risk of unconventional monetary policy,’’ said Andy Barr, the outgoing chairman of the monetary policy and trade subcommittee of the House Financial Services panel. “The burden should be on them to tell us why this does not compromise their credibility and why the public and Congress should not be concerned about their solvency.’’

Of course, the culprit for the record loss is not so much the holdings, as the impact on bond prices as a result of rising rates which spiked in the summer as a result of the Fed’s own overoptimism on the economy, and which closed the third quarter at 3.10% on the 10Y Treasury. Indeed, with rates rising slower in the second quarter, the loss for Q3 was a more modest $19.6 billion.

And with yields tumbling in the fourth quarter as a result of the current growth and markets scare, it is likely that the Fed could book a major “profit” for the fourth quarter as the 10Y yield is now trading just barely above the 2.86% where it was on June 30.

Meanwhile, the Fed continues to shrink its bond holdings by a maximum of $50 billion per month, an amount that was hit on October 1, not by selling them, which could force it to recognize but by opting not to reinvest some of the proceeds of securities as they mature.

The Fed is expected to continue shrinking its balance sheet at rate of $50BN / month until the end of 2020 (as shown below) unless of course market stress forces the Fed to halt QT well in advance of its tentative conclusion.

https://www.zerohedge.com/sites/default/files/inline-images/Fed%20Soma%20Nov%202018_1.jpg?itok=i1IAr1B1

In any case, the Fed will certainly never return to its far leaner balance sheet from before the crisis, which means that it will continue to indefinitely pay banks interest on the excess reserves they park at the Fed, with many of the recipient banks being foreign entities.

Barr, a Kentucky Republican, has accurately criticized that as a subsidy for the banks, one which will amount to tens of billions in annual “earnings” from the Fed, the higher the IOER rate goes up. He is not alone: so too has California Democrat Maxine Waters, who will take over as chair of the House Financial Services Committee in January following her party’s victory in the November congressional elections.

* * *

Going back to the Fed’s unique treatment of losses on its income statement and its under capitalization, in an Aug. 13 note, Fed officials Brian Bonis, Lauren Fiesthumel and Jamie Noonan defended the central bank’s decision not to follow GAAP in valuing its portfolio. Not only is the central bank a unique creation of Congress, it intends to hold its bonds to maturity, they wrote.

Under GAAP, an institution is required to report trading securities and those available for sale at fair or market value, rather than at face value. The Fed reports its balance-sheet holdings at face value.

The Fed is far less cautious with the treatment of its “profits”, which it regularly hands over to the Treasury: the interest income on its bonds was $80.2 billion in 2017. The central bank turns a profit on its portfolio because it doesn’t pay interest on one of its biggest liabilities – $1.7 trillion in currency outstanding.

The Fed’s unique financial treatments also extends to Congress, which while limiting to $6.8 billion the amount of profits that the Fed can retain to boost its capital has also repeatedly “raided” the Fed’s capital to pay for various government programs, including $19 billion in 2015 for spending on highways.

Still, a negative net worth is sure to raise eyebrows especially after Janet Yellen said in December 2015 that “capital is something that I believe enhances the credibility and confidence in the central bank.”

* * *

Furthermore, as Bloomberg adds, if it had to the Fed could easily operate with negative net worth – as it is doing now – like other central banks in Chile, the Czech Republic and elsewhere have done, according to Nathan Sheets, chief economist at PGIM Fixed Income. That said, questionable Fed finances pose communications and mostly political problems for Fed policymakers.

As for long-time Fed critic and former Fed governor, Kevin Warsh, he zeroed in on the potential impact on quantitative easing.

“QE works predominantly through its signaling to financial markets,’’ he said. “If Fed credibility is diminished for any reason — by misunderstanding the state of the economy, under-estimating the power of QE’s unwind or carrying a persistent negative net worth — QE efficacy is diminished.’’

The biggest irony, of course, is that the more “successful” the Fed is in raising rates – and pushing bond prices lower – the greater the un-booked losses on its bond holdings will become; should they become great enough to invite constant Congressional oversight, the casualty may be none other than the equity market, which owes all of its gains since 2009 to the Federal Reserve.

While a central bank can operate with negative net worth, such a condition could have political consequences, Tobias Adrian, financial markets chief at the IMF said. “An institution with negative equity is not confidence-instilling,’’ he told a Washington conference on Nov. 15. “The perception might be quite destabilizing at some point.”

That point will likely come some time during the next two years as the acrimonious relationship between Trump and Fed Chair Jerome Powell devolves further, at which point the culprit by design, for what would be the biggest market crash in history will be not the Fed – which in the past decade blew the biggest asset bubble in history – but President Trump himself.

Source: ZeroHedge

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Diagnosing What Ails The Market

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Credit “Death Spiral” Accelerates As Loan ETF Sees Record Outflow, Primary Market Freezes

One week after even the IMF joined the chorus of warnings sounding the alarm over the unconstrained, unregulated growth of leveraged loans, and which as of November included the Fed, BIS, JPMorgan, Guggenheim, Jeff Gundlach, Howard Marks and countless others, we reported that investors had finally also joined the bandwagon and are now fleeing an ETF tracking an index of low-grade debt as credit spreads blow out and cracks appeared across virtually all credit products.

Specifically, we noted that not only had the $6.4 billion Invesco BKLN Senior Loan ETF seen seven straight days of outflows to close out November, with investors pulling $129 million in one day alone and reducing the fund’s assets by 2% to the lowest level in more than two years, but over 800 million has been pulled in last current month, the biggest monthly outflow ever as investors are packing it in.

https://www.zerohedge.com/sites/default/files/inline-images/bkln%20loan.jpg

Fast forward to today, when another major loan ETF, the Blackstone $2.9BN leverage-loan ETF, SRLN, just suffered its largest ever one-day outflow since its 2013 inception.

https://www.zerohedge.com/sites/default/files/inline-images/SRLN%20dec%20v%202018.jpg?itok=FU8x72Fm

Year to date, the shares of this ETF backed by the risky debt have dropped 2.6%, hitting their lowest level since February 2016; the ETF’s underlying benchmark, the S&P/LSTA Leveraged Loan Index, has also been hit recently and is down 2.3% YTD, effectively wiping out all the cash interest carry generated YTD and then some.

https://www.zerohedge.com/sites/default/files/inline-images/srln%2012.7.2018.jpg?itok=93ymkOSL

BLKN and SRLN aren’t alone: investors have pulled over $4 billion from leveraged loan funds in the three weeks ended Dec. 5, the largest cash bleed in almost four years for such a period, according to Lipper data.

https://www.zerohedge.com/sites/default/files/inline-images/Lev%20loan%20outflows%2012.7.jpg?itok=jp4pwY7v

“The price action in the ETF hasn’t warranted investors to justify keeping it on to collect the monthly coupon it pays,” said Mohit Bajaj, director of exchange-traded funds at WallachBeth Capital. “The risk/reward hasn’t been there compared to short-term treasury products like JPST,” he added, referring to the $4.2 billion JPMorgan Ultra-Short Income ETF, which hasn’t seen a daily outflow since April 9.

Analysts have pointed to widening credit spreads and the fact that loan ETFs have floating-rate underlying instruments, assets that become less attractive than fixed-rate ones should the Fed skip its March rate hike, which after Powell’s latest dovish turn and today’s weak payrolls may – or may not – happen.

The ongoing loan ETF puke comes at a time when both US investment grade and junk bond spreads have blown out, while yields spiked to a 30-month high this month. In November, investment grade bonds suffered their worst year in terms of total returns since 2008 and December isn’t looking much better. Meanwhile in high yield, junk bonds yields just had their biggest one-day jump since April.

https://www.zerohedge.com/sites/default/files/inline-images/IG%20vs%20HY%2012.7.jpg?itok=Y3rIc4KA

According to a note from Citi strategists Michael Anderson and Philip Dobrinov, leveraged loans in the U.S. may no longer be the “star performer” amid a potential pause in rate hikes by the Fed, while the recent redemption scramble has caused ETFs to offload better quality loans to raise cash, according to the Citi duo. That’s despite leveraged loan issuance being at its highest since 2008 largely as a result of insatiable CLO demand.

If investors are, indeed, unloading to raise cash, Anderson and Dobrinov write “this is a bearish sign, particularly if outflows persist and managers eventually turn to deep discount paper for cash. Furthermore, as we get closer to the end of the Fed’s hiking cycle, we expect further outflows as traditional fixed-rate credit products become more in vogue.”

Incidentally the behavior described by Citi’s strategists, in which ETF administrators first sell high quality paper then shift to deep discount holdings, was one of the catalysts that hedge fund manager Adam Schwartz listed three weeks ago as a necessary condition for credit ETFs to enter a “death spiral.” And with virtually everyone – including the Fed, BIS and IMF – all warning that the next crisis will begin in the leverage loan sector, the question to ask is “has it begun“?

One answer comes from the primary market, and it hardly reassuring.

As we discussed last week, while the leveraged-loan party isn’t quite over, jitters around the world have made lenders and investors less willing to give loans to heavily indebted companies, with numerous loan offerings getting pulled and lenders are demanding – and getting – sweeter terms.

As Bloomberg reports, on Tuesday JPMorgan had to slash the price on a $210 million loan to 93 cents on the dollar from par to sweeten investor demand and help finance a private jet takeover.  Specifically, JPMorgan offloaded loans financing the takeover of XOJET at 93 cents on the dollar, one of the steepest discounts seen in the leveraged loan market this year. And with the market on the verge of freezing, the size of the deal was cut by $70 million from the originally targeted amount.

In Europe, the market appears to have already locked up, as three loans were scrapped over the last two weeks, victims of the Brexit tensions gripping the UK. To wit, movie theater chain Vue International withdrew a 833 million pound-equivalent ($1.07 billion) loan sale. While the deal was meant to mostly refinance existing debt, around 100 million pounds was underwritten to finance the company’s acquisition of German group CineStar.

Last week more deals were pulled when diversified manufacturer Jason Inc. became at least the fourth issuer to scrap a U.S. leveraged loan. Additionally, Perimeter Solutions also pulled its repricing attempt, Ta Chen International scrapped a $250MM term loan set to finance the company’s purchase of a rolling mill, and Algoma Steel withdrew its $300m exit financing. Global University System in November also dropped its dollar repricing.

Fears of a slowing global economic growth even as rates continue to rise, combined with anxiety over trade talks between the U.S. and China, reluctance to take risk before year end and the recent rout in credit products, have all led to a widespread fear across markets; investors are also concerned about higher interest rates weighing on corporate profits. These fears are spreading across credit markets, from investment-grade debt to junk bonds.

“No one thinks this is the big one,” said Richard Farley, chair of the leveraged finance group at Kramer Levin told Bloomberg. “But on the fear to greed continuum we have definitely moved closer to fear.”

The fear has resulted in the S&P/LSTA leverage loan price index tumbling to a two year low.

https://www.zerohedge.com/sites/default/files/inline-images/lev%20loan%20index%2012.7.jpg?itok=mKAf1QUt

The sharp shift in sentiment has been remarkable: for most of 2018, investors couldn’t get enough of floating-rate products like leveraged loans based on the assumption that they will fare better in a rising-rate environment. As a result of blistering demand, companies were able to sell new debt with virtually no covenant protections and higher leverage, triggering warnings about deteriorating standards from regulators and bond graders in recent months (see above).

And, in the aftermath of Chair Powell infamous Oct 3 speech which sent risk assets tumbling and tightened financial conditions, leveraged loan price indexes in Europe and the U.S. have dropped to their lowest level in over two years, while nearly all of the loans outstanding are now trading below their face value. According to JPM, the percentage of loans trading above face value has dropped to just 3.9%, a 29-month low, down from 65.4% in early October. This suggests that virtually all leverage loan investors are now underwater on a total return basis.

* * *

With the leveraged loan market freezing up – and potentially entering a death spiral – the recent weakness has raised concerns that other debt sales currently in the works may be sold at discounts that are so deep underwriters may have to book a loss, if they can be sold at all. This is precisely what happened in late 2007 and early 2008 when underwriters found themselves with pipelines of debt sales that sudden got blocked, and were forced to take massive haircuts to keep the credit flowing.

Still, optimists remain: “The downdraft in loans has been very orderly thus far,” said Chris Mawn, head of the corporate loan business at investment manager CarVal Investors. “We anticipate most managers will keep buying in this market trying to be opportunistic and those who don’t have to sell will just hold.”

Of course, speaking of flashbacks to 2007/2008 it was just this kind of investor optimism that died last…

Source: ZeroHedge

Wells Fargo: ‘Shareholders Can’t Sue Us Because They Should Have Known We Were Lying’

Wells Fargo is adopting an unusual defense against a shareholder lawsuit: claiming, essentially, that shareholders can’t hold the bank accountable for CEO Tim Sloan’s statements that it was “working to restore trust” and be “more transparent” about its scandals – because it should have been obvious that Sloan was lying.

The defense, which Wells Fargo put forth in a legal filing aimed at getting a shareholder lawsuit dismissed, relies on the legal concept of “puffery,” according to a Los Angeles Times report.

Generally, businesses engage in “puffery” when they make advertising claims that are vague or transparently untrue – a restaurant claiming it has “the world’s best burgers,” for instance. Judges and regulators have ruled that claims like that are so obviously inflated that consumers won’t take them seriously. Such claims aren’t actionable in court, the Times reported.

The thing is, “puffery” usually applies to out sized advertising claims. Wells Fargo is now claiming that the “puffery” defense should be applied to statements CEO Tim Sloan made to investors, and that a lawsuit filed by shareholders should be dismissed on those grounds.

The lawsuit stems from one of the bank’s many scandals – in particular the July 2017 revelation that Wells Fargo had for years been charging auto loan customers for unnecessary insurance. The lawsuit is seeking class certification for all investors who bought the company’s stock after Nov. 3, 2016, through Aug. 3, 2018, the Times reported.

It was on Nov. 3, 2016, that Sloan announced at an investor’s conference that he was “not aware” of any undisclosed scandals. In fact, Wells Fargo already knew that its improper auto insurance charges had pushed as many as 275,000 customers into delinquency and resulted in 25,000 improper repossessions. In fact, top bank executives allegedly knew of the problem as early as 2012, but took no action until 2016, according to the Times. Regulators have already slammed the bank for its inaction; earlier this year, the Consumer Financial Protection Bureau and the Office of the Comptroller of the Currency fined Wells Fargo $1 billion for the auto-insurance scandal and a rash of improper mortgage fees.

The shareholder lawsuit focuses on efforts by Sloan and other Wells Fargo executives to conceal the auto-loan scandal, the Times reported. Wells Fargo execs were, at the time, already dealing with the bank’s massive fake-accounts scandal. They insisted that Wells Fargo would be “more transparent” about its scandals even while failing to disclose the auto-insurance issue.

During an investor call in January 2017, Sloan said that the bank wanted “to leave no stone un-turned. If we find something that’s important, we’ll communicate that.”

By that time, Sloan had already received an independent report on the auto-insurance scandal, the Times reported. The scandal did not become public, however, until the independent report was leaked to the media in July 2017.

The shareholder lawsuit contends that Wells Fargo lied about its intent to be transparency. Wells Fargo, however, maintains that Sloan’s statements were “puffery.” According to the bank’s legal filing, Sloan’s comments were generic statements “on which no reasonable investor could rely.”

“This is just another example of corporate actors making statements to the market, and then trying to avoid liability for the representations they made,” Darren Robbins, the attorney bringing the shareholder suit, told the Times.

Source: by Ryan Smith | Mortgage Professional America