Money’s too tight to mention

As the credit crunch continues to spreads its woes my inbox is filling up with offers from NZ banks (all Australian owned by the way) to buy various types of debt with fabulous names:

- Perpetual non-cumulative preference shares

- Perpetual callable sub-ordinated bonds

All offering north of 10%. A no brainer for bank debt surely?

Well yes it is. Let’s face it if the bank goes belly up we’re all stuffed. How much is deposit insurance worth these days? Probably not much. But the reason behind this rush of issuance is more interesting.

Banks have plenty of cash on the books, known to us as our deposits, but recorded as unsecured liabilities in the bank’s balance sheet. Yes we are not really depositors but merely unsecured creditors.

So why do banks need to raise more debt or more to the point equity dressed up as debt? Well their balance sheets are under severe pressure and they need to meet the requirements laid out in Basel II which means they need more equity on the balance sheet in order to lend out all this cash.

This is not good news at all. It means banks are constantly trying to tidy up their financial position which is tenuous at best.

In the US mortgage backed bonds, normally AAA, are trading at their widest against US treasuries since 1986. There is some serious de-leveraging going on even in the most liquid and traditionally safe markets. This is a harbinger of further losses to come. Many players are now starting to realise that the financial system is in structural distress.

Suddenly owning a few dairy cows seems like a sensible investment.