U.S. Banks Lose Faith in Bond Market

November 12, 2015Bondsby EW News Desk Team

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American banks are holding fewer bonds on fears that the market will continue to decline, while mortgage activity falls and retail sales decline.

After sharp declines earlier in the year, banks view bonds with growing suspicion, as they expect debt values to decline on weak macroeconomic conditions. According to the Federal Reserve Bank of New York, U.S. banks have -$1.4 billion investment-grade corporate bonds on their balance sheets. This indicates that banks have “shorted” the bond market, or that they have signed agreements to sell more bonds than they will buy in the short term.

The data, which covers the week ending October 28, indicates that banks are worried about growth rates throughout the market, while also indicating it will be harder to sell bonds in the short term. This is the first time in recorded history that banks have been short investment-grade bonds in aggregate.

Partly, the fall in bonds is also a result of new, tougher standards on capital reserves, which limit exactly how much debt banks can have on their balance sheet. The new rules have made it more expensive for banks to hold corporate bonds, which have partly depressed the value of the asset class throughout 2014 and 2015.

Additionally, growing fears of defaults and weak demand for bonds in some sectors, particularly in energy, have driven bonds even lower throughout 2015.

Weak Mortgages, Retail Sales

While the corporate debt weakens, mortgage applications have also fallen, indicating weakness in the retail debt market as well. According to the Mortgage Bankers Association, the seasonally adjusted index of mortgage applications fell 1.3% despite expectations of an improvement in mortgage activity due to low rates and growing consumer confidence.

Part of the fall in mortgage applications is a due to a decline in refinances, which fell 2% from the prior week, according to data from the MBA. Interest rates rose slightly across loan types, with 30-year mortgages rising 3 basis points to 4.04%.

In addition to weak mortgage activity, retailers have grown leery of making heavy investments in inventories. Despite warmer weather and projections of high seasonal strength due to improving consumer confidence, retailers are reporting higher inventories and weaker demand, according to reports from two separate investment banks.

Both reports said that shoppers are unmoved by higher discounts, which Ralph Lauren President of Global Brands Chris Peterson was quoted as admitting that inventories were up “a little bit” throughout the retail industry.

A rise in unsold inventories implies weak demand for goods, and that could cause retailers to begin steeper discounts and earlier sales to promote activity. Some analysts note that rising prices and wages for many income groups that have declined in nominal terms since 2007 are largely to blame.

At the same time, some market analysts are predicting resurgence in holiday spending later in the year. The National Retail Federation believes holiday sales will increase 3.7% in 2015 compared to a year ago.