Why the ‘explosive growth’ in US consumer debt could hit back, according to a researcher

Investors may soon find out what happens after a “golden age” of consumer credit.

After a period of “explosive growth” in consumer credit, the nearly $1.6 trillion U.S. bond market, tied to auto loans, credit cards, student debt and even cell phones, has begun to see a deterioration in liquidity, according to Joseph Kalish , Chief Global Macro Strategist at Ned Davis Research.

During periods of volatility such as early 2022, liquidity in parts of the bond markets tended to dry up.

Issuance of new asset-backed securities exploded last year after a brief pandemic dip, as did trading volume, Kalish said. But the tone has changed recently, including Wall Street traders being less willing to put capital into the sector (see chart).

Wall Street is backing away from consumer ABS.

Ned Davis Research

Take the credit card abs. “Primary” Merchantsor the brokerage departments of large investment banks, averaged more than $1 billion in average daily positions in this type of short-term debt in 2018, but their size has since shrunk to about $200 million, according to a report by Ned Davis of Thursday.

Dealer positions also decreased in student loans and other consumer debt sectors but increased in auto bonds over the same period.

Wall Street dealers have historically been an important source of liquidity for buyers or sellers looking to transact once bonds are first sold in the market.

BofA Global estimated trading volume in the US ABS market at $59.5 billion in the first quarter, the lowest first quarter in the last 10 years or in all history since reforms requiring public reporting of such trades.

“Also, crime rates appear to have bottomed out,” Kalish wrote. “That will likely lead to tighter lending standards.”

All of this comes as the ABS market enters the “seasonally unfavorable” second half of the year, when performance tends to falter, he said, as part of his downgrade of the sector from market weight to overweight.

In 2008, illiquid subprime mortgage bonds were at the heart of major global banks’ problems, necessitating government bailouts.

While asset-backed bonds didn’t implode similarly back then, the Federal Reserve created one Emergency loan 2020 for the sector at the beginning of the pandemic to keep credit flowing – a Version of his program 2008 — Underlining the role the sector plays in the US economy.

In early June, JPMorgan Chase & Co. JPM,
CEO Jamie Dimon said a storm is likely brewing for the US economy as the Federal Reserve plans to aggressively raise interest rates this year to combat inflation near 40-year highs.

Brian Moynihan, Chairman and CEO of Bank of America BAC,
offered a much less pessimistic view of the economy on the back of a strong job market and solid consumer spending.

Stocks fell Thursday ahead of a key US update on inflation, with the Dow Jones Industrial Average DJIA,
S&P 500 Index SPX,
and Nasdaq Composite Index COMP,
all posting their worst daily declines in about three weeks.

continue reading: US household net worth falls in the first quarter due to lower stock prices Why the ‘explosive growth’ in US consumer debt could hit back, according to a researcher

Brian Lowry

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