Two days ago I heard on Boomberg radio a very interesting observation. The total amount of lines of credit that US banks committed to the (mostly institutional) customers is $2.5 trillion dollars. Obviously, they never expected that clients will start tapping the credit at that amount, but the obligation exists. This is a pre-negotiated loan, similar to the home equity line of credit.

What does it mean? First (we did it before) we can compare the outstanding commercial paper and bank credit. Indeed, outstanding commercial paper contracted by $351 bln since July. The outstanding banking credit increased by $596 bln at the same period, so corporations and individuals are just tapping the promised credit lines at accelerated rate.

Once the credit is tapped the bank must provide actual funds within 2-5 days, but not the same day. So the banks are hoarding a lot of short-term loans but not not something that cannot be turned back to cash almost immediately. I think this is very important to understand the situation with Libor market and Ted spread. The Libor is the rate set in London for overnight loans and it fell substantially since December. Apparently, banks have plenty of cash that they are willing to lend overnight, because one day is how far they can plan their finances. All this extra cash it hitting Libor and moving it down.

But take a look at the not so liquid loans: the municipal bonds auction failed, the rates went up to as high as 20% (!!) for some issues. The corporate bonds are tumbling as well. I’m sure the knowledgeable person will provide plenty of links – 1-3 days credits yes-yes-yes, lon-term credits no-no-no!

When banks can, they will reduce their obligations on lines of credit. For example, Countrywide is cutting lines of credit for 122k customers.
It is hard to deny the credit to corporate customer, but when its rating is downgraded it is a contractual excuse for a bank to walk away. Watch any corporate downgrades – even a slight credit downgrade, which was no big deal for years, may kill a company within weeks, because it will cut oxygen.

Please watch today treasury bills auction around 1:30pm , it is a huge event, the treasury will be begging with a huge tin cup. I reduced my treasury holdings because I don’t feel so confident anymore. Something is happening with treasuries

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