Effects, balance sheets and new linkages

This is the third entry in a series of posts on U.S. debt purchases by the foreign private sector during the past decade. An introduction and overview can be found here.

Every transaction, when observed at the most minute level is commonly thought to have two effects:

  • a marginal price effect, which depends on the aggression of the involved parties and
  • a change in ownership of the respective asset.

For most transactions (or bundles thereof), these effects are inconsequential at a macro level.

Sometimes however, while frequently still appearing inconsequential when viewed from a micro perspective, large unidirectional flows into similar assets by similar but distinct actors can have a lasting impact on markets. An impact which transcends the purely transactional nature of asset acquisitions and affects the market environment as a whole by altering

  • who can issue at what yield levels and
  • in what amounts.

At the same time, large inflows which fall into this category tend to create new linkages between hitherto unconnected balance sheets, which then have the power to – at times – shape the future trajectory of markets.

It is from such a perspective that the overseas inflows into U.S. debt this cycle will be analyzed in the following sections. Figure 1 is an attempt to map out – hopefully in a somewhat organized manner – the different layers at which foreign private inflows affect numerous financial markets.

Figure 1 (click on images to enlarge)

The balance sheets of the principal actors involved – the issuer and the ultimate buyer – are placed on the very left and right of the diagram respectively. In between lie several layers affected by the purchases.

The analysis will commence by first focusing on the left half of Figure 1: discuss the effects of purchases on bond markets, the issuers and the broader economic environment. Afterwards, the concentration will shift to how institutions acquire the necessary funds in the first place and, closely related, how they deal with FX risk and the effects of their hedging structures on markets. This is figuratively speaking the right half of Figure 1. Continue reading “Effects, balance sheets and new linkages”

Effects, balance sheets and new linkages

A different, $2.6+ tn foreign private buyer of U.S. debt

This is the second entry in a series of posts. An introduction and overview can be found here.

The aim of this second post, as mentioned in the introduction, is to collate information on the foreign private buyers of U.S. debt securities during the past decade and, at the same time wherever possible, survey their overall asset allocation to better understand motivations and drivers.

The article can be divided into three parts.

Part 1 looks at how the U.S. “Treasury International Capital” system and the IMF’s “Coordinated Portfolio Investment Survey” together help in establishing an initial approximation of which countries have been acquiring U.S. debt securities.

Part 2 swiftly compares this process to the tracking of U.S. debt in global FX reserve portfolios and highlights possible difficulties which, in Part 3, will complicate the analysis of private portfolios.

Part 3 starts with the preliminary list produced in Part 1 and from there dives deeper into individual countries by attempting to allocate purchases at the national level to individual sectors, or where possible, single companies. Due to varying levels of transparency in disclosures, this process works better in some countries than in others which makes it seem reasonable to approach each country with a clean slate and postpone cross-country generalizations to a later post in this series.

The post concludes with a country attribution of the buyers which blends (and here and there adjusts) the macro view attained in Part 1 and the analysis of individual countries in Part 3.

Continue reading “A different, $2.6+ tn foreign private buyer of U.S. debt”

A different, $2.6+ tn foreign private buyer of U.S. debt

Reflections on a decade of private cross-border acquisitions of U.S. debt

This is the introduction to a series of posts.

the old view

During the first decade of the 21st century and the early years of the following decade, a fairly unanimous narrative developed about foreign capital inflows into U.S. bond markets. This narrative highlights three types of flows which approached or crossed the $1 tn mark and, due their size, not only affected financial markets narrowly but created real economic and social-political spillovers which shaped – and still shape – the world today.

In decreasing order of importance:

1. Foreign central banks started in the late 1990s, animated by recent FX volatility in a number of emerging markets and as part of a renewed adoption of mercantilist, export-led growth policies, to intervene in FX markets and accumulate foreign currencies, primarily U.S. dollars. These funds were then used to acquire high quality U.S. debt securities with non- or negligible credit risk. Such purchases were not the result of a specific duration view or return-enhancing mindset but were rather forced; where else to park several trillion USD. At its height, U.S. debt owned by foreign official accounts reached around $5 tn.

2. Starting at a similar time, structured products began their march into portfolios of institutional investors, riding on a wave of supposedly precise credit ratings and above average yields. While inflows where insignificant during the early 2000s, they seriously accelerated from 2004 when European banks and parts of Asia began to arbitrage versatile risk weightings and started to purchase structures backed most frequently by U.S. real estate, but more or less anything that provided sufficiently reliable cash flows to be sliced into tranches. Holding structures used by foreigners varied, making precise numeric assessment of this trend difficult. The peak holding level stemming from this type of flow seems to have been somewhere around $1 tn.

3. Finally, animated by diversification benefits, foreign private investors also acquired standard U.S. fixed income products: Treasury and Agency bonds as well as non-securitized corporate bonds. Admittedly, underlying incentives for these flows were limited as

  • U.S. interest rates were low compared to other nations and reserve flows pushed down term premia, lowering duration compensation even further;
  • the dollar declined starting in 2002, disincentivizing currency-unhedged investments;
  • U.S. fixed income markets, while the deepest globally, are also the most competitive and credit risk premia was priced very competitively from 2004 onwards until the crisis, while other parts of the world, like EMs or structured products, were offering more appealing opportunities.

For these reasons, growth was limited to ~$1.5 tn during the 2000s; a notable amount but rather insignificant relative to the size of the underlying markets.


a changing landscape

foreign ownership of U.S. debt
Figure 1 (click to enlarge)

Continue reading “Reflections on a decade of private cross-border acquisitions of U.S. debt”

Reflections on a decade of private cross-border acquisitions of U.S. debt