Japan’s Net Sales of Foreign Debt Reaches Record

Although one robin does not make a spring, the increased reluctance of Japanese retail and institutional investors to hold GSE debt is worrisome. Bloomberg reports that Japanese retail and institutional investors are unloading foreign debt due to currency volatility and are particularly leery of Fannie and Freddie securities.

Admittedly, as Brad Setser has pointed out repeatedly, private foreign investors have increasingly become a marginal factor in the funding of the US current account deficit. The buyers are almost entirely central banks and to a lesser degree, sovereign wealth funds. Setser noted earlier in the week that central banks

..aren’t quite as keen on Agencies as they used to be. But central banks still are buying a lot of Treasuries.

So the momentary backing off of Japanese investors in and of itself may not be as big a cause for concern as it appears to be. But there is a second-order question: if the populace of a country comes to regard US credits, public and private, as less than desirable, continuing large central bank purchases will become increasingly controversial.

Now China may seem immune to that sort of pressure, but recall even they have taken a lot of heat for the Blackstone investment and actually seem (as best I can judge at this remove) more than a tad embarrassed.

Skeptical CPA points to a similar line of thinking: the return on offer for US bonds is inadequate. quoting Steve Hanke at Forbes (August 11, no online source):

In short, the dollar rules, to the great benefit of the U.S. Could it lose its dominion? It could. … For real rates, compare the nominal return on short-term Trasury bills (less than 1.5%) with the rise in the consumer price index over the last year (5%). Someone sitting on cash in the form of T bills is seeing his wealth shrink (and this is before income tax is subtracted). Neither U.S. savers nor foreign central banks are willing to undertake this sacrifice forever. … Foreign central banks purchase roughly 80% of all the new debt issued by the U.S. government. … By my calculation, approximately 55% of the increase in corn since 2001 can be accounted for by the dollar’s decline. … By denying a direct link between the dollar and commodity prices, the Fed is signalling that it wants room to move interest rates and the dollar down

Now to the story on Japan from Bloomberg:

Japanese investors made the biggest weekly net sales of overseas bonds since at least 2001 on currency swings and concern the U.S. housing slump will worsen.

Sales of overseas securities exceeded purchases by 1.42 trillion yen ($13 billion) in the week ended Aug. 23, according to figures based on reports from designated major investors released by the Ministry of Finance in Tokyo. JPMorgan Asset Management Japan Ltd. said last week it was reducing its holdings of debt issued by Fannie Mae and Freddie Mac.

“Japanese investors have been constant sellers of agency debt,” said Hideo Shimomura, who oversees the equivalent of $4 billion as a chief fund manager at Mitsubishi UFJ Asset Management Co. “Major Japanese institutional investors are likely to have sold agency bonds” in the week ended Aug. 23….

“Although Fannie and Freddie are being aided by the government, there still is no guarantee on their debt, so it is difficult to hold it,” said Daisuke Uno, chief bond and currency strategist at Sumitomo Mitsui Banking Corp. in Tokyo. “Without a guarantee, nobody will do anything as it’s too risky, so they sold the bonds.”

Local investors may also have sold overseas bonds due to increased volatility in major currencies, said Tsutomu Komiya, an investment manager in Tokyo at Daiwa Asset Management Co.

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  1. dh

    Lehman Brothers’ embattled Chief Executive Dick Fuld nearly struck a deal to raise almost $5 billion from South Korean wealth funds and institutions but the pact disintegrated, according to sources familiar with the matter.

    That’s the meat of the article. No word on why talks broke down, what Lehman was offering to sell the Koreans, etc. Speaking of the GSEs, the WSJ published a front page story today with this crucial paragraph:

    [Freddie] had to pay hefty interest rates [in an auction of its debt yesterday]….Five-year notes were priced to yield 4.172%, or 1.13 percentage points above yields on safe Treasury notes, the highest “spread” Freddie has ever paid on such debt.

    Among the largest buyers of GSE debt are foreigners recycling the dollars they collect as part of their trade surpluses. And the GSEs now finance virtually the entire U.S. mortgage market. If foreigners stop buying GSE bonds, the capital available to finance housing will be reduced significantly, and mortgage rates will spike. [Indeed, in this latest auction, Europeans/Asians bought 41% of Freddie’s debt, which is down from an average of 51% last year.] Anyone who thinks the fall in housing prices can’t get much worse hasn’t considered what will happen if mortgage rates go to 9-12%.


  2. François


    Always a pleasure to read your most effective capture of the financial press and blogosphere.

    I have an issue with the investment level in the US.

    Why the hell would the most capitalized country in the world require foreign “investment” per se?

    Sorry the demographical answer is not enough…

    I could not catch it for years. Of course the answer is clear. These are international credits for sure but not investments.

    Credits with no sound investments look more like subsidies at best… at worse as taxes.

  3. dh

    This story fits with your post IMHO:

    In Fannie's sale, the company paid the most relative to bank borrowing in a weekly auction since July 23, when lawmakers passed Paulson's emergency rescue plan. Freddie paid the most relative to the London interbank offered rate in a monthly auction since July 2007. Higher debt costs may lessen the companies' ability to use revenue from their $1.6 trillion portfolios to offset rising foreclosure-related expenses.


    Fannie sold $1 billion of three-month notes at a yield of 2.58 percent, the company said. That's about 89 basis points more than U.S. Treasuries and 23 basis points less than three-month Libor, compared with 76 basis points and 31 basis points in a sale last week.


    The Treasury is paying more attention to the yields paid by Fannie and Freddie in sales of long-term debt than their short- term borrowing, said Paul Colonna, the chief investment officer for fixed income at GE Asset Management in Stamford, Connecticut.

    “That's where all the large institutional players overseas are playing,'' he said today. “We're comfortable with the credit risk profile of both the short term and long term senior debt.''

    Fannie also sold $1 billion of six-month debt today at a yield of 2.87 percent, about 93 basis points above Treasury bills and 28 basis points below six-month Libor, compared with 88 basis points and 31 basis points last week. A basis point is 0.01 percentage point. Three-month Libor is currently set at 2.81 percent, while six-month Libor is at 3.12 percent.

    >>> Fannie and Freddie's rising relative borrowing costs have come with spreads on the mortgage-backed securities they invest in also climbing. The option-adjusted spread on fixed-rate home- loan bonds guaranteed by the companies or U.S. agency Ginnie Mae rose to 151 basis points yesterday, from 108 basis points on June 2, according to Lehman Brothers Holdings Inc. data.

    If their borrowing costs climb to “some kind of distressed level, outside of corporate AAAs,'' Fannie and Freddie might be forced into sales of mortgage bonds, hurting prices and forcing up loan rates, FTN Financial Capital Markets mortgage-bond strategist Walt Schmidt said in an interview yesterday. <<<<<

  4. Yves Smith


    Thanks for the Bloomberg pointer. Although I have no idea where the break might be, there is a spread level where the rates the GSEs would pay would undermine their mission and business model. I haven’t seen that teased out, but the amount of financings between now and the end of September may test those limits.


    The argument (and needless to say, I don’t buy it) is that the reserve currency country has to bear the burden (!) of running current account deficits so that there is enough of its currency in circulation around the world to satisfy transaction requirements.

    Even if that were true, the huge dollar FX reserves in China, Japan, the Gulf states are way beyond what is needed to facilitate trade.

  5. Matt Dubuque

    Yves, I agree there is clearly a rate the GSEs would pay that would undermine their mission and business model.

    But these are dynamic systems at play, with multiple cross currents and for every effect there is a compensation, although the differential lags in different markets make prediction complex and noisy.

    I think the TIGHTENING of the spreads we are seeing between Agency and Treasury debt is, as previously stated, in material part due to arbitrageurs taking advantage of this enlarged spread to lock in 3-month profits with agency swaps at the primary dealer facility.

    The point here is we should all agree that the GSEs are like a very sick 49-year old 470-pound diabetic in need of major open heart surgery.

    All surgeons know that surgery upon a very sick and morbidly obese middle-aged diabetic patient poses dramatically increased risks that need to be managed, if at all possible, prior to surgery. Try to stabilize their weight and blood pressure beforehand, for starters.

    Surgery, by its destabilizing nature, is inherently risky for a variety of reasons.

    The regulatory authorities, some clearly less competent than others, are trying to prepare the GSEs for surgery in this way.

    They have bought a little time.

    The market for agency paper has improved a bit.

    Major executives were replaced yesterday at Fannie.

    The story of discussions of coordinated intervention to support the dollar was floated and picked up in the FT today by the ever-able Krishna Guha, to ensure that the dollar, a key vital sign, remains stable during and after the operation.

    Open heart surgery is an exceptionally complex process in its own right, but when it is performed upon a 470-pound diabetic, anything can go horribly wrong at exactly the wrong time.
    What if there is a sudden collapse of Lehman Brothers over the same weekend when the surgery is being performed? What if Israel attacks Iran with tactical nuclear weapons during the weekend surgery is performed? Or if a newly emboldened China makes a move on Taiwan, threatening to dump 90 billion of agency paper (for starters) first thing Monday morning if Dick Cheney objects?

    Cardiac surgeons will tell you of cases they have had where the heart of the patient literally dissolved in their hand (obviously fatal) merely by lifting it during surgery, because the heart was so rotten to the core. Absolutely nothing they could do.

    The GSEs are enormous bloated and very sick entities. Any person familiar with the enormous restructuring required on some of the big mergers and acquisitions knows that whatever their final form, it will take a long time to work out all the kinks.

    With a top rate surgical team, it is possible that the above-described morbidly obese diabetic patient could survive surgery and actually go on to have some productive years, assuming RADICAL lifestyle changes were immediately made after surgery.

    Our surgical team we have readied for major surgery on the GSEs is clearly mixed. Although we have some of the world’s best minds in the mix, we also have a disturbing sprinkling of fools who, if they are allowed to make key decisions, could destroy everything.

    There can be only one chief surgeon in the operating room. Should that be Dick Cheney? I’ll leave that to others to discuss.

    My informed judgment is that this surgery upon the GSEs must take place before February of next year, for a variety of reasons.

    Fortunately, we have a little time to try to stabilize this patient and prepare it for the inevitable and very dangerous surgery to come.

    Matt Dubuque

  6. Anonymous

    Re: I think the TIGHTENING of the spreads we are seeing between Agency and Treasury debt is, as previously stated, in material part due to arbitrageurs taking advantage of this enlarged spread to lock in 3-month profits with agency swaps at the primary dealer facility.

    Re: TIGHTENING of the spreads???

    What are you talking about??

    Re: Fannie sold $1 billion of three-month notes at a yield of 2.58 percent, the company said. That’s about 89 basis points more than U.S. Treasuries and 23 basis points less than three-month Libor, compared with 76 basis points and 31 basis points in a sale last week.

  7. Anonymous

    The discount rates reflect that the bills sell for less than face value. For a $10,000 bill, the three-month price was $9,956.30, while a six-month bill sold for $9,902.68. That would equal an annualized rate of 1.741 percent for the three-month bills, and 1.971 percent for the six-month bills.

    Separately, the Federal Reserve said Monday that the average yield for one-year Treasury bills, a popular index for making changes in adjustable rate mortgages, dropped to 2.12 percent last week from 2.18 percent the previous week.

  8. Sammy Boy

    Hey Francois,
    Now you understand!!! Thanks for bankrolling us Americanskis with your hard earned money!!!
    Damn, can’t you take a joke? But, the joke is on us, when our house of cards falls apart (is falling apart). Remember, as much as we used you it will still be us that saves you from the Army of the Islamic Republic when they crash the gates of Berlin.

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