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Was It All the Weather?
We have had a number of client questions on how much severe weather has impacted the U.S. economic data.
Last week’s numbers gave some early indications on this front. The U.S. employment report was solid in March, with a rebound in the workweek to 34.5 hours. Nonfarm payrolls gained +192,000 m/m with upward revisions of +37,000 to prior months. Those are solid readings, though the boost from emergency unemployment benefits ending could mean that some of this strength is temporary. Nonetheless, the +29,000 gain in temp-help employment (a leading indicator) suggests some economic momentum as we start 2Q.
The U.S. mfg & non-mfg PMI measures also showed resiliency, with Strategas analyst Norbert Ore noting last week that “the debate will continue as to the net impact of the polar vortex on the U.S. economy, but that is now in the rear view mirror.” U.S. vehicle sales also bounced in March, up to a 16.3 million seasonally adjusted annual rate. We're staying tuned.
Why Would a Puerto Rico Debt Crisis Matter?
As global financial markets zero in on Washington, D.C.,
another potentially disruptive event is lurking in the warmer waters just
off the U.S. mainland, and the likelihood of a default there is far higher than
that of the U.S. government.
Puerto Rico, the heavily indebted and struggling island commonwealth, is in the
midst of a full-on bond market assault that now threatens the government’s
ability to raise capital. And for a government with a heavy per
capita debt burden (recent figures show public debt of about $17,000 per
resident) and a potential budget shortfall of $1 billion in the coming
year, bond markets are the lifeblood that keeps the economy churning and the
government from defaulting. But why should investors care about Puerto Rico,
particularly those in the equity or non-municipal bond markets? Because in
terms of non-sovereign government borrowers, Puerto Rico is a behemoth,
with roughly $60 billion of direct and indirect obligations outstanding,
with another $10 billion in limited obligations.
What’s more, Puerto Rico’s bonds are broadly held by an investor class that’s
not use to sensational, headline grabbing credit events, or at least it
wasn’t until Detroit’s recent bankruptcy. This alone is reason enough to
worry about Puerto Rico, as it treads closer and closer to a distressed
borrowing state. But perhaps the deeper answer as to why Puerto Rico
matters is that the global reassessment of government credit quality has
largely bypassed the North American continent.
Even as we write this, the U.S. government continues its own fiscal battles,
with sporadic warnings of default consequences, yet bond markets have
largely priced in little event risk, despite the 24 hour coverage that
it’s been given. A Puerto Rican crisis could threaten to bring this risk
directly to North America, with immediate implications for states like
Illinois and California first, provinces like Ontario and Quebec second, and
eventually the U.S. government itself. Along the way, a Puerto Rican
crisis can also slow any momentum in the U.S. economy by slowing or
delaying state and local government spending, and even push some smaller
distressed local governments over the edge and into bankruptcy by closing
off their own bond market access.
In short, Puerto Rico matters because it’s large enough to immediately disrupt
capital markets, while also being so broadly held that losses from a
restructuring or default could impact the borrowing costs for a wide swath
of issuers over the longer-term. Because of this, we worry about Puerto
Rico for the same reasons that we worried about Spain and Italy in 2011
and 2012; not because we necessarily anticipate a crisis, but rather because
the impact from stress in such a broadly held credit can be difficult to
predict and it almost always requires a discount on top of any visible
Admittedly, a Puerto Rico crisis would pale in comparison to the previous risks
posed by Italy or Spain, but the odds of a Puerto Rican crisis are also
much higher than those associated with these Mediterranean sovereigns, and
because of that, Puerto Rico matters!
Tom Tzitzouris is a Vice President in fixed income strategies for Strategas
Published by Forbes 10/16/2013