Summary
A closer look at the latest Federal Reserve flow-of-funds data reveals some exceptional happenings during the third quarter. For those people wondering why open-market interest rates in the United States have remained so subdued in the face of growing inflationary pressures that are now unmistakable, this third-quarter data provides at least some answer.
_____
Introduction
Last Thursday, the Federal Reserve released its latest "Z.1," also known as the "Flow of Funds Accounts of the United States." I quickly lifted and published tables containing the foreign-related data I do each quarter. In my view, speed was particularly important with this task this time around, within the context of the missive I published on 11/27. That article was entitled, "Dollar Weakness and Its Threat to the US Financial Markets."
When I wrote the November piece, the latest flow-of-funds data that existed were through the June quarter. I went ahead using those numbers anyway, since the accelerating decline taking place in the dollar's exchange-rate value had several of my clients inquiring about just how serious the implications were. My terse answer was, "potentially, very serious." After all, although lots of investors did not realize it at the time, or have since forgotten, 1987's stock-market crash had its genesis in a dollar decline.
So now that the Federal Reserve has made available the latest numbers (released on 12/9 with data through 9/30), it's important to see how this might all fit with market events of the last few months, as well as with possible developments in the months ahead.
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Some Numbers
* As of 9/30/04, foreign investors held a total of $8.925 trillion of US financial assets, up almost $121 billion from revised holdings of $8.804 trillion as of 6/30. From 9/30/03, the increase was approximately $1.091 trillion. (See Table 1 in the table appendix at the end of the text.)
* As of 9/30, foreign liabilities totaled about $4.410 trillion, resulting in a net foreign claim against the US of more than $4.515 trillion. (See Table 1.)
* The dollar's exchange-rate value put in a major bottom in the spring of 1995, commencing a steep rise into early 2002. Note in Table 1 how the expansion in the growth of foreign holdings of US financial assets paralleled the dollar's rise.
* As Table 1 indicates, the United States, for the first time since World War II years, became a net debtor during 1985.
* Table 2 segregates the classes of capital-market assets that are readily salable by foreigners, or where a significant slowing in the rate of accumulation could adversely influence domestic prices. As of 9/30, these totaled $6.101 trillion, which was a very healthy 68.4% of total US financial assets held by foreigners. This illustrates the sizable exposure US markets would have to any substantial net reduction in these holdings.
* As of 9/30, foreign investors held the following respective percentages of total outstandings of Treasuries, agencies, US corporate bonds and US equities: 43.5%, 12.2%, 26.1% and 12.3%. Combined holdings of Treasuries and agencies were 24.9% of total outstandings.
By comparison, going back to 12/31/94, not long before the dollar put in the major bottom mentioned above, foreigners held the following respective percentages of total outstandings of Treasuries, agencies, US corporate bonds and US equities: 18.3%, 5.7%, 13.4% and 7.0%. At that time, the combined holdings of Treasuries and agencies were 13.4% of total outstandings.
* As of 9/30, the 15 largest foreign holders of US Treasury debt had total holdings of $1.584 trillion, an increase of more than $66 billion or 4.4% from 6/30. (These figures include both "official" and "private" holdings. See Table 3.)
Tables 1 through 3 in the appendix break out foreign holdings of US financial assets as of the end of given periods. These are dollar values outstanding at the end of those periods. On the other hand, Table 4 breaks out the net foreign flows into the markets during the periods shown. Figures for 2004's third quarter are at annual rates, which makes them comparable to the data for 2000 through 2003, inclusive.
* During 2003, a very high 73.6% of US financial-asset acquisition by foreign investors was in highly marketable (therefore, highly "salable") asset classes. This shows not only the positive influence that well over half a trillion dollars had on our domestic markets as the money was going into them, but also the opposite effect it could have, were there to be even a sizable decline in the magnitude of the flows. Of course, were there to be net liquidatioins, the situation would likely be far worse.
* During this year's third quarter, financial-asset acquisition by foreigners rose to an annual rate of an exceptionally large $1.111 trillion, although the amount that went into the highly marketable asset classes I've segregated slipped to 68.5%.
* The following statistics illustrate the degree to which foreign capital flows have supported US markets. During the September quarter, foreigners absorbed the equivalent of an extraordinary 97.7% of all Treasury issuance, an even more extraordinary 99.9% of all agency issuance, and 63% of all corporate bond issuance. Combined foreign purchases of Treasuries and agencies came in at an annual rate of $369.3 billion, which equaled almost 99% of total Treasury and agency issuance during the third quarter.
* A final point about Treasury activity during the September quarter. In addition to the huge proportion of foreign acquisitions, the Federal Reserve increased its own portfolio of Treauries during the period at an annual rate of $74.1 billion. This means that during the quarter, the Fed and foreign investors absorbed $278.2 billion (annual rate), versus total issuance at an annual rate of $208.9 billion. Obviously, this had a very favorable influence on Treausry yields during the quarter, although an influence certainly lacking in its "free-market" characteristics.
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Table Appendix
Table 1.
------------------------------------------
FOREIGNERS' U.S. FINANCIAL
ASSETS/LIABILITIES
(Billions of Dollars, Latest Data
Released 12/09/04 Through 09/30/04)
------------------------------------------
Total Total
Financial Financial
Assets Liabilities Difference
------------------------------------------
2004
09/30 8924.9 4409.5 4515.4
06/30 8804.0 4235.8 4568.2
03/31 8644.4 4144.7 4499.7
------------------------------------------
As of
12/31
-----
2003 8228.7 4050.1 4178.6
2002 7441.1 3981.8 3459.3
2001 6965.8 3650.1 3315.7
2000 6584.9 3490.2 3094.7
=======================================
1990 1998.4 1388.8 609.6
---------------------------------------
1985 967.4 869.7 +97.7
1984 805.3 841.6 -36.3
---------------------------------------
1980 494.2 666.4 -172.2
1970 104.8 140.5 -35.7
1960 38.9 63.5 -24.6
1950 17.4 31.4 -14.0
=======================================
1945 16.3 14.9 1.4
------------------------------------------
Source: "Flow of Funds Accounts
of the United States" (Federal
Reserve "Z.1" release).
------------------------------------------
Table 2.
-----------------------------------------------
FOREIGN HOLDINGS OF US FINANCIAL ASSETS
AS OF 09/30/04 (Billions of Dollars
-- Latest Data Released 12/09/04)
-----------------------------------------------
% of
Total
Total US Financial Assets -----
Held by Foreign Investors 8924.9 100.0
===============================================
Credit-Market Instruments# 4430.7 49.7
------ ----
Open Market Paper 115.3
US Govt. Securities 2616.7
Treasury 1856.1
Agency 760.6
US Corporate Bonds 1698.7
-----------------------------------------------
US Corporate Equities 1670.3 18.7
------ ----
Credit-Market Instr.
+ Corp. Equities 6101.0 68.4
====== ====
-----------------------------------------------
Detail of US Government Securities
-----------------------------------------------
Treasury 1856.1
Official 1162.1
Private 694.0
Agency 760.6
Official 208.7
Private 551.9
------
2616.7
======
-----------------------------------------------
Source: "Flow of Funds Accounts of the United
States" (Federal Reserve "Z.1" release.) #For
the purpose of this analysis, the category
"Loans to US Corporate Business" has been ex-
cluded. As of 9/30/04, this category had tot-
al outstandings of $121.7 billion.
-----------------------------------------------
Table 3.
----------------------------------------
15 LARGEST FOREIGN HOLDERS OF U.S.
TREASURY DEBT AS OF 09/30/04, VS. THE
SAME COUNTRIES' HOLDINGS AS OF 06/30/04
(Amounts in Billions of $s)*
----------------------------------------
09/30 06/30
Country 2004 2004
----------------------------------------
( 1) Japan 720.4 689.3
( 2) Mainland China 174.4 164.9
( 3) United Kingdom 134.6 126.5
( 4) Caribbean Bank-
ing Centers@ 100.3 85.8
( 5) Korea 66.6 60.5
( 6) Taiwan 57.4 57.7
( 7) Germany 51.0 47.7
( 8) Hong Kong 49.5 52.4
( 9) Switzerland 48.5 49.6
(10) OPEC 43.1 43.7
(11) Mexico 33.9 38.6
(12) Canada 33.8 30.6
(13) Luxembourg 26.7 26.4
(14) Singapore 24.1 27.0
(15) Ireland 19.4 16.7
----------------------------------------
Total 1583.7 1517.4
----------------------------------------
*Estimated end-of-period foreign
holdings of US Treasury marketable
and nonmarketable bills, bonds and
notes based on Treasury Foreign
Portfolio Investment Survey bench-
marks and on monthly data reported
under the Treasury International
Capital (TIC) reporting system.
Totals comprise both official and
private holdings. Data subject to
revision. @Includes Bahamas, Ber-
muda, Cayman Islands, Netherlands
Antilles, and Panama.
----------------------------------------
Table 4.
-----------------------------------------------------
NET ACQUISITION OF U.S. FINANCIAL ASSETS
BY FOREIGN INVESTORS -- 2000 TO 9/30/04*
(Billions of Dollar)
-----------------------------------------------------
Years Ended December 31
--------------------------
2000 2001 2002 2003 3Q04*
----- ----- ----- ----- ------
Net Acquisition
of Finan. Assets 963.0 657.7 741.3 783.0 1111.2
================= ===== ===== ===== ===== ======
Credit-Market
Instruments
----------------
Open-Mkt. Paper 4.3 -2.6 10.3 9.9 -0.8
Treasury Sec. -70.5 10.5 138.9 285.1 204.1
Agency Sec. 141.9 103.7 112.5 11.5 165.2
Corp. Bonds 168.4 195.4 151.0 232.6 370.9
----- ----- ----- ----- -----
Subtotal 244.1 305.4 412.7 539.1 739.4
----- ----- ----- ----- -----
Corp. Equities 193.6 121.5 54.2 36.9 22.3
----- ----- ----- ----- -----
Total 437.7 426.9 466.9 576.0 761.7
===== ===== ===== ===== =====
Above/Net Acquis. 45.5% 64.9% 63.0% 73.6% 68.5%
----- ----- ----- ----- -----
MEMO ITEM#
----------------
Loans to Corp-
orate Business -2.2 -1.6 10.1 -0.8 -26.0
-----------------------------------------------------
DISTRIBUTION OF TREASURY/AGENCY ACQUISITIONS
-----------------------------------------------------
Treasury Securities
-----------------------------------------------------
Official -5.2 33.7 60.5 169.7 125.1
Private -65.3 -23.2 78.5 115.4 79.0
---- ---- ----- ----- -----
Total -70.5 10.5 139.0 285.1 204.1
-----------------------------------------------------
Agency Securities
-----------------------------------------------------
Official 40.9 20.9 28.6 24.9 38.2
Private 101.0 82.8 83.9 -13.4 126.9
----- ----- ----- ----- -----
Total 141.9 103.7 112.5 11.5 165.1
-----------------------------------------------------
*Source: "Flow of Funds Accounts of the United
States" (Federal Reserve "Z.1" release). #Al-
though "Loans to Corporate Business" are classi-
fied by the Fed as "Capital Market Instruments,"
they have been excluded for the purpose of this
examination, since they lack the liquidity of
the other categories. 3Q04 figures are at
seasonally adjusted annual rates.
-----------------------------------------------------
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