Early Warning Sign?

For months now, we've heard about lending activity picking up, another sign of a strengthening economy. Credit is certainly the life blood of our economy, so loosening of credit, the increased flow of lending would be a good sign. But, of course the opposite is true as well. And it could be that we're seeing opposite signs now.
The loan market is starting to show signs of tightening more than six months after the Federal Reserve and Office of the Comptroller of the Currency sent letters to banks telling them to improve their deteriorating underwriting standards. Investors are demanding better terms and pulled cash from leveraged-loan funds the last two weeks, snapping an unprecedented 95 straight weeks of inflows.
While these are junk bond offerings, that's not a reason to ignore this. Credit tightening - if that's what we're starting to see, begins at the fringes, for example with junk bonds, and works its way to core lending over time. Remember subprime loans? They were at the fringes of the credit markets. As credit flows into suprime began to waver, then seize up, no less than the Fed chief at the time, Ben Bernanke, pooh-poohed the subprime lending collapse as a fringe activity that would not effect the economy at all. We know what really happened.

Another area we watch to see if credit is beginning to tighten is private equity deals. Private equity firms typically rely on the ready availability of credit when they buy companies; they borrow money to buy a company, or, as they say, take the company private. Not only do they use credit to buy a company, but they also borrow money to pay themselves a "dividend": the private equity folks line their pockets even as they pile debt on to the company. So when you see something like the following happening, you know that private equity deals will not be so compelling anymore if this trend continues (my emphasis):
Rocket Software Inc. pulled $725 million of loans from the market this week that would have refinanced debt and paid for a dividend to its co-founders and private-equity firm Court Square Capital Partners LP, according to data compiled by Bloomberg. The deal is at least the third to be withdrawn in the last month, with cable TV provider WideOpenWest Finance LLC canceling $1.97 billion in loans and Dutch LLC, which does business as women’s apparel company Joie, scrapping a $200 million debt offering.
If a credit crisis is brewing, you're not going to hear about it from the government, the Fed, or the main stream media, although you can spot stories like this one on Bloomberg and gather your evidence, if you know what you're doing. No one's going to wave flags or blast a siren that trouble's coming. There's too much money to be made on Wall Street and they'll continue milking the cow until the barn burns down. As for you and me, we don't have that luxury. It may soon be time to prepare ourselves for another round of intense crisis. We'll have to wait and see.

Comments

Popular Posts