Credit Woes in Europe? BoE Gets 3X Demand For Auction

A: I don't want to rain on yesterday's equity parade, but I want to point out something. Have you noticed over here that when the fed holds one of their auctions, say for $50 Bln, and the demand comes in lighter than expected only requesting $30 Bln, the analysts and economists go out of their way to point out that this is a POSITIVE sign that distress in the credit markets may be easing; as there is less of a need for borrowing from the fed. Well, look at what is going on in Europe; the exact opposite! Keep an eye out if housing and credit woes may be moving across the Atlantic! What would happen to the foreign demand argument for Manhattan real estate; how may this ultimately affect foreigners who already purchased units? Lets discuss starting with the macro signs.

Credit markets are still not fully healed over here, as the fed and their emergency team of surgeons, successfully stitched up the Bear Stearns artery that tore 4 weeks ago. There is still a little blood leaking out, evidenced by LIBOR rising (in part due to the oversubscribed BoE auction that I will go into) in the past week and TED spreads widening as well. The continuing disconnect of equities to credit markets (read my "Stocks Lagging Credit Markets" piece) was covered today on the Wall Street Journal:

Stock and credit markets are once again singing from a different hymnal. One closely watched measure of credit-risk worries, the gap between three-month Treasury bill rates and the three-month London interbank offered rate -- the "TED spread" -- widened Wednesday to about 1.6 percentage points, the highest since late March. Before the credit crunch, the spread was about 0.35 percentage point.

The TED spread is a measure of the difference between buying a relatively safe government bond and making a riskier loan to a bank. This spread widens when lenders want to avoid risk.

Always look ahead of the curve; short term money is still very tight! But what concerns me a bit more is what happened when the Bank of England had an auction that yielded bids from financial institutions totaling 3X the amount being offered! Thats exactly the opposite scenario from the light auction we saw & cheered over a few weeks ago as a very positive sign! So, the laws of some form physics would say that the BoE auction is a very negative sign; as the need for fund raising surges in Europe!

According to Bloomberg's article, "BOE Received Most Bids in Three Months at Auction":

The Bank of England said financial institutions bid for 50 billion pounds ($99 billion) in its weekly auction, the most in three months, as a worsening shortage of credit increased the need for central bank funds.

Financial institutions are struggling to raise money and refusing to pass on the Bank of England's interest rate cuts to consumers. The cash shortage has already ended the U.K.'s decade-long housing boom and threatens to push the economy into a recession.

You know, the foreign demand argument has been a favorite for most brokers in the past few years, as the US dollar continued to plunge in value. I never denied the existence of foreign demand in Manhattan on the currency trade, I just didn't buy into the depth of the phenomenon that some brokers tout. I mean, is there any real means to quantify what percentage of our buy side demand are foreigners anyway? No! Which led me to write, "Does A Weaker Dollar Accelerate Foreign Demand?", five months ago:

"As the US dollar continues to fall against other major currencies, people mis-interpret the trend to mean that X number of additional buyers are pouring into Manhattan real estate! In my opinion this is an incorrect assumption! It is not that cut and dry and to dismiss macro economic events, confidence, and near term expectations as part of this currency trade equation is a mistake. There is no anecdotal evidence to support a re-acceleration in foreign demand; its mostly theory and we are left to ask the brokers what they are currently seeing for a clearer picture. In my opinion, confidence trumps the weakening dollar in the mindset of foreigners."

My Point: If the Manhattan real estate marketplace used the foreign demand argument for years (me included), as a reason why our market is so strong, then at least we must be open to the possibility that this source of buyers may be contracting. If this is not a possibility in a brokers mind, well, then I guess that's why there is the old 'having your head in the sand' saying. I would expect foreign new dev sales, with many closing during the course of 2008, to contribute in some way, shape or form to our rising inventory trend. This is part of the natural cycle, and there should be nothing wrong about discussing it openly. Time will tell, and I could be dead wrong.

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