Sunday, August 21, 2011

Snehal Manjreka: US Rating Downgrade

US Rating Downgrade

Snehal Manjreka
8/7/ 11

It is true that the political dogfight hastened the downgrade to a large extent, but I personally believe that the key holders of US debt and US currency pay little attention for such developments. Post financial crisis *astute* and *serious* investors have paid much little attention to credit ratings and their ratings actions. The market now seem to be ahead of the rating curve by getting more independent and intelligent.

I believe the recent panick-stricken selling of US equities is an overreaction from a bunch of bamboozled investors. The primary reason for the sell-off is possibly the diluting size of US corporate profits. As of Friday, the consensus forecast was that the S.& P. 500’s earnings would grow 15.8 percent in the third quarter. That’s off slightly from predictions of 16.7 percent third-quarter growth at the end of June, Mr. Butters said, senior earnings analyst at FactSet. On the other hand, Jeffrey N. Kleintop, chief market strategist at LPL Financial, says he thinks that “the estimates are still too high.” While profits might still grow by double digits, he said, they won’t be the 16 or 17 percent gains built into many analysts’ estimates. I believe this slight slowdown in US corporate profits reflects a conducive trend of squuezed margins due to increased hiring. I believe many manufacturing companies are returning back to the US and hence a subsequent rise in hiring will have a modicum downward impact on profits.

Talking about the S&P rating action as I mentioned above the key stakeholders of US denominated assets (Asian, Middle East nations, UK and Russia) are unfazed by the rating downgrade. Mentioned below are the comments of leading US denominated asset holders as sourced from Bloomberg:

Russia said the one-step cut “can be ignored.” Russia considers U.S. debt reliable and won’t review its policy of investing in the country, Deputy Finance Minister Sergei Storchak said by phone yesterday. The downgrade “can be ignored” for long-term investment strategy, he said. Russia is one of the 10 largest foreign holders of U.S. government debt.

Jordan has “faith” that the dollar and dollar debt “will continue to be the prime benchmark for risk-free debt,” Central Bank Governor Faris Sharaf said yesterday by telephone in Amman. “We are willing to accept U.S. risk even with S&P’s action,” he said.

Lebanese central bank Governor Riad Salameh said “the dollar is a shelter in times of crisis, and we have no plans to cut our dollar holdings.”

Japan, the second-largest international investor in American government debt, sees no problem with trust in the securities, a Japanese government official said on condition of anonymity.

In the U.K., the world’s third-largest foreign holder of U.S. debt, Business Secretary Vince Cable said yesterday the dollar is “the key international currency” in the short run.

South Korea on the other hand has scheduled an emergency meeting to mull over the matter. I have been hearing that the Bank of Korea is buying lot of gold in the market. Probably, to emgineer a slight decoupling from the dollar. But the size of the purchase wasn't big enough to talk about a real decoupling from the dollar as such.

Post this rating downgrade we might see demand for gold rising as central bankers might start shopping for gold in international bullion markets. Global fund managers have been bearish on US denominated assets since quite sometime now. They rather place more faith in US corporate debt than ramping up sovereign bonds holdings. Hence, a slew of negative comments from them should be ignored. I believe the most efficient investors presently existing in financial markets are central bankers. If they are reinstating their faith and trust in US denominated assets then the markets need not indulge in the unwarranted and value-destroying game of panick-selling of financial assets. Watch out for Central bankers and the SWFs for guidance!

About this author: Snehal Manjreka is a Business Decision Support Officer at CSC and former Senior Analyst at Thomson Reuters. This well-informed financial professional wishes to expand into the area of financial writing. As a guest writer and friend, I'd like to invite you to learn more about this promising young man by viewing his LinkedIn profile.


Channakeshav said...

Hi Snehal,

Just wanted to known the prospective impact that China has to face if the condition goes beyond the control of the US Fed,as you have mentioned they are the second largest US Debt investor and Chinese papers have raised the question about the dollar devaluation and the same time they feel the US relation will be at stake if they wont take proper measures to solve this problem.

And for the matter of fact what do you think about the recent economic data which emphasises the need of policy measures quick and efficient?

Thanks and Regards,

Snehal Manjrekar said...


Thanks for your thoughtful question.

China exported huge sums of capital to the US to keep RMB competitive so as to make their exports cheaper to the US consumer. I personally feel PBOC's talk of diverging from the USD assets and the debt impasse in the US is a matter of sheer co-incidence. As per China's 12th Five Year plan China would shift its manufacturing mix and start exporting high-value goods to OECD countries in general and non-OECD countries in particular. In addition to this RMB trading band would be expanded meaning expect more RMB appreciation in coming days. So I dont forsee a serious thaw in Sino-US trade relationship as such. In fact it would get better as China wont continue running those jaw-dropping trade surplus against the US (A whopping $200bn until 2007).

Also expect PBOC channelizing money into commodities, and European assets.

I couldnt completely understand second half of your question. Would you be kind enough to be more elaborative.


Channakeshav said...
This comment has been removed by the author.
Channakeshav said...

Hi Snehal,

Thanks for your thoughtful views

and Second part of my question was regarding the the economic data what we have for US,I am referring to lower industrial production rate, mortgage (new home sales and demand)has gone low hitting the lowest levels and by lowering the interest levels made investors to choose for shorter term loans...and there is also a possibility that the companies with high liquidity are trying to get the benefit of lower yield by repurchasing the bonds.While investors are already started discussing the QE3,don't you think we need more Feb's intervention to change the market sentiments to balance the market?


Snehal Manjrekar said...


Refer to the link below. I have initiated a discussion on similar topic on one of the economics forum on LinkedIn.

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