Credit Contraction & Income Theme

Courtesy: David Rosenberg

November 9, 2009


It is like a magic show — the U.S. economy is somehow out of recession with both employment and consumer credit outstanding still in full-fledged contraction mode.

In September, total consumer credit fell $14.8bln making it the eighth month in a row of debt repayment — an unprecedented string of declines. Over this period, the amount of consumer credit (not including mortgages) that has come out of the system has totalled $163bln at an annual rate (or -6.3% at an annual rate). Looking at the fact that total household debt still exceeds long-turn norms of 60% by a factor of more than two, we are still in the early stages of a secular credit contraction that could well end up seeing another $5 trillion of debt collapse. This is a highly deflationary process; it will take time; and while we are bullish on gold and commodities strictly on global supply-demand imbalances, bonds remain a very good place because deflationary episodes provide solid real yields to investors.


All that ‘dry powder’ the bulls talk about is indeed being put to use — money market fund assets fell an additional $29.3 billion last week. But the proceeds are heading towards bond funds, which had estimated inflows of $10.2 billion on top of $11.2 billion the week before. A further $239 million were directed into hybrid funds and this was in addition to $979 million the prior week as well. U.S. equity funds, as it turns out, suffered a $2.6 billion net outflow yet again.

This is remarkable and a testament to the resolve of the twice-burnt, thrice-shy general investing public. So far, the general public has stayed the course and is focused on income growth as opposed to strictly capital appreciation in its quest for sustainable long-term risk-adjusted returns in the face of a hedge-fund driven 60% rally in stocks from the lows. For a good ‘take’ on what this all means, have a look at page 5 of the Sunday NYT business section In Fund Flows, a Caution for Stocks.

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