A Lender Carry Trade; An Old Theme Revisited

March 16, 2014

Last June when tidbits about a would-be future ‘taper’ of T bond purchases (QE) were popping up in the media NFTRH 241 (June 2, 2013) put forward a theory that a tapering of bond monetization could begin to act as a delivery mechanism for inflation, with banks and lenders the key:

A ‘Carry Trade’ Returns?  (6.3.13)

QE ‘Taper’ to T Bond Carry Trade – More Thoughts  (6.11.13)

‘Taper to Carry’ is Still Loaded  (6.19.13)

‘Taper to Carry’… a Logical Chain  (7.8.13)

Gold: “Taper This”  (9.17.13)

Characteristics of the ‘carry’:

§  An incentive for the banks to finally start lending funds out into the economy due to the ‘carry’ spread (a profit mark up for lenders) between rising long-term yields and the officially held ZIRP on the Fed Funds.

§   It could be a positive for gold and commodities as ‘price’ signals in the economy finally start to gain traction (ex. Last 2 ISM ‘prices’ data were quite elevated) as a long-bemoaned lack of ‘velocity of money’* (i.e. deflationary drag) transforms, at least temporarily into a phase where inflation drives up costs.

It’s an inflationary fix and is part of the reason we have followed the bank sector’s leadership.  They would benefit.  Precious metals and commodities could benefit as people chase price signals and think “uh oh, INFLATION!” [although is should be noted that a period of 'cost chasing' and inflationary hysterics is not the preferred long-term fundamental underpinning for gold; ongoing economic contraction is]

In short it all plays into the current theme that while things may remain positive for the economy and the stock market for a while yet, it is no longer a Goldilocks style bullishness with US stocks sucking up all of the [inflationary] benefit.

I’ll plan to do a public article on this since there are articles showing up in the blogosphere talking about the recent rise in lending, yet without illustrating what I think is the proper path of bread crumbs that were laid to get us to this point.

New (Public) Content

The primary reason I dug this old subject back up in NFTRH is this post by Sober Look (with contributing views from Barron’s and ISI Research), a blog you will find linked on the right side bar of our site.  That means I respect what I have seen of this author, FWIW.  Here is the post in question…

What’s behind the sudden improvement in US loan growth?

The subject matter caught my eye after an NFTRH subscriber sent me a link to it.  Finally, the funds are getting out there into the economy!  Well, who’s surprised?  With due respect to the author, there is nothing sudden about this situation.  Per the first link above from June 3, 2013 and NFTRH 241 dated June 2:

The subject matter caught my eye after an NFTRH subscriber sent me a link to it.  Finally, the funds are getting out there into the economy!  Well, who’s surprised?  With due respect to the author, there is nothing sudden about this situation.  Per the first link above from June 3, 2013 and NFTRH 241 dated June 2:

“The Bank Index ratio to the S&P 500 (BKX-SPX) is breaking out to the upside in defiance of a bear case in stocks.  The BKX has modestly led the SPX since 2011.  We have noted that this is a necessary bullish factor for the financialized economy, which is quite different from a real or organic economy.

Remember the ‘carry trade’ of the Greenspan era?  That would be the same carry trade that helped bloat the banking sector, putting its big, fat too big to fail hands in just about every cookie jar in America.
The banks love rising long-term yields because they basically receive free money from the Federal Reserve as the first users of newly created funds on the short end, which is being held down by ZIRP.  They then roll these funds into loan products, mark them up per long-term yields and voila, instant profits courtesy of a ‘borrow short, lend long’ gimmick.

Let’s see how this develops, but we should note that Bernanke has not created anything new under the sun.  The great carry trade of last decade was just another unnatural systemic stress that led to the 2008 resolution.
Do you suppose that Fed officials are ready to let the banks do the heavy lifting, now with the incentive (carry) to get the funds ‘out there’ to the public?  This condition came hand in hand with an inflation problem last decade and now that everybody seems to know there is no inflation, would not a new phase of rising inflation expectations go well right about now?”

Per Sober Look:

“It’s worth mentioning that the bottom in loan growth just happened to correspond to the start of Fed’s taper. Coincidence?”


“The key to this change in trend is that improvements in loan growth have been primarily driven by a sudden jump in corporate lending.  Why is corporate America increasing its borrowing all of a sudden? The most likely answer is the improvement in capital expenditures (capex), which is evidenced by firmer capital goods spending by US companies.”

In my opinion that is the tail wagging the dog.  A frustrating aspect of the entire recovery out of 2009 has been lenders’ refusal to lend sufficiently for the economy to gain traction.  It was not so much a demand (for credit) problem as creditor reluctance or even outright fear.

It is not corporate CapEx that is the driver but very simply, the ability for corporations to gain access to plentiful funding with a now incentivized banking sector.

“Thus the similarities in timing of the bottoming of loan growth in the US and the start of Fed’s taper may not be a coincidence after all.”

No not at all.  The trail of bread crumbs was visible over 9 months ago as the Fed started to leak a coming QE taper, which would be the ultimate kick start to the activation phase of the inflation, where the banks are now incentivized to get the inflation ‘out there’, right down Main Street, USA.

 * A review of the current Velocity of Money graphs shows an indicator still burrowing lower.  This is a measure of the number of times one dollar is turned over in economic transactions.  In other words, it is probably a laggard to the front line credit and lending just starting to get going.  Since an inflationary economic recovery is not expected to be a lasting economic recovery, it is highly debatable as to whether the Velocity of Money will ever get untracked and into an uptrend.


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Gary Tanashian of biiwii.com successfully owned and operated a progressive medical component manufacturing company for 21 years, keeping the company’s fundamentals in alignment with global economic realities through various economic cycles.  The natural progression from this experience is an understanding of and appreciation for global macro-economics as it relates to individual markets and sectors.

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