A summary of the indicators in this research letter, their ratings, and the rating scheme:
The bank credit impulse went down by a marginal 4 points during the week ending April 10th. The reading of 0.31 is well within a range that is historically correlated with positive economic growth. This is an index designed to measure the flow of credit from commercial banks to the real economy, which ultimately drives spending and corporate earnings.
Credit Impulse & Cycle Average, 5 years
Source: Federal Reserve Board of Governors
At the same time, credit has remained on the lower side of average for the last year (more specifically since March 2023). For this expansion to continue reliably, we should also see some months above the cycle average. Rating: 3/5.
Banks have been increasing their holdings of US government backed bonds since December 2023. These are bonds issued by the US Treasury and by government-backed institutions (Freddie Mac, Fannie Mae, etc). In other words: safe assets you buy when you’re avoiding risk.
The banks have increased their government-backed holdings by about 5 percent since December. Rating: 2/5.
Banks’ Treasury & Agency Bonds as a % of Total Assets
Source: Federal Reserve Board of Governors
Investment banking deals have surged
The investment banks had a great quarter in January through March 2024. Deal making – investment banks selling bonds on behalf of large corporations – pushed their earnings through the roof. Goldman Sachs, for instance saw its underwriting fees jump by 32 percent. The was the Wall Street Journal’s cover story on April 17th:
Monthly Corporate Bond Issuance, all credit ratings and types, 2 years
Source: SIFMA
High corporate bond issuance is an indicator that corporations are increasing investment. While most people don’t delight in seeing the investment banks pad their pockets, it’s ultimately good for everyone else when they are doing so because their clients are investing and hiring. Rating: 5/5.
Measures of Risk Perception: Down Overall
The Street calls these “Credit spreads”. It’s the difference between the interest rates on corporate bonds and the relevant government bond, and measures how much additional interest investors demand in compensation for the risk of lending to a corporation instead of the government. When investors perceive risk as low, the spreads go down; when they perceive risk as high, the spreads go up.
The spread on investment grade bonds rose a bit in the last week but has kept to a steady downtrend for the last two years. This reflects the high demand for corporate bonds, in other words, more investors taking risk.
Interest Rate Premium on Investment Grade Corporate Bonds
Source: Intercontinental Exchange/BofA
The same is true for high yield “junk” debt. In other words, even the corporations with poor earnings histories are getting funded. Rating: 5/5.
Interest Rate Premium on Investment Grade Corporate Bonds
Source: Intercontinental Exchange/BofA
Synthesis Overall, this is a bullish report for economic growth and earnings of US corporations, and therefore, US stocks. The rise in banks’ holdings of US government backed bonds is a “caution sign”. Another thing we’ll be keeping an eye on is the “junk bond” risk premium, which has the potential to become a yellow or red light as we haven’t seen a new low since early January.