CreditSights: The Week In Credit
The latest flow of funds data released by the Federal Reserve updates the aggregate supply and ownership trends in the U.S. corporate securities market to the end of last year's third quarter. Non-financial borrowing in the form of corporate bonds was relatively stable during the quarter, increasing by just 1% to $2.85 trillion, though this is a 5% increase on end-2002 levels. The increase in financial sector bond borrowing was more substantial; 3% in the latest quarter to $3.36 trillion. The degree to which the robust pace of issuance in 2003 was driven by the finance sector is captured in this tally by the 12% increase in financial sector bond borrowings since the end of 2002.
Looking at the ownership of those bonds, changes were also notable. The increase in foreign demand for corporate debt that is detailed in the capital flows data has not gone without comment and that trend is reiterated in the Flow of Funds report. At the end of the third quarter, foreign ownership of the corporate bond market had risen to 18.6%, a 1.3% increase on the previous quarter and up from 16.2% at the end of last year. Offshore holders are the second biggest investor constituency after insurance companies, who have 27.2% of the market. But, whereas the foreign presence is growing at a rapid clip, insurance company holdings have maintained a fairly static share for the last three years and are down substantially from their mid-1990s levels. This trend is also evident in pension and retirement accounts (current share of 10.6%) and in the household sector. The portion of the market deemed to be owned by households peaked at 17.8% in the final quarter of 2002 but has now retraced to just 14%.
The trends in ownership of U.S. equities are far more stable. In this sector the share attributed to foreign ownership is just 10%, a level it has maintained for the past three years. Insurance companies have even less of a presence with just 7%. Pension and retirement accounts and mutual funds each account for 21% of holdings but the greatest concentration is attributed to households. As at the end of the third quarter, households owned 39% of the market. It is interesting however, that this is down 2% on a quarterly basis and down 8% in the last four years. Households are the only category experiencing a downtrend in equity ownership and the data may reflect a move away from direct personal investment and toward externally managed savings and investment vehicles.
The flow of funds report also affords the opportunity to drill down into specific investor groups and analyze their asset allocation trends, providing a useful corollary to more frequent data such as mutual fund flows. That data has been indicating that a reallocation into equities has been gaining momentum since mid-2003. This is borne out by a review of the private pension fund assets in the Fed data. At the end of the third quarter, pension funds held 42.6% of assets in equities, up from 42.0% the previous quarter and 39.4% in March 2003. The increased allocation to equities in the six months ending in the third quarter came largely at the expense of cash and equivalents (down 0.9%), Treasuries (down 0.9%) and corporates (down 1.0%), adding a further data point to the fixed income-to-equity rotation.
A similar trend was seen at the life insurance companies, though to a lesser extent. Holdings in equities grew by 2.3% over the last six months to 22.8% versus drops in corporate bonds (1.0%), Treasuries (0.3%) and cash and equivalents (0.5%). With the life insurance companies however, corporate bonds remain the stalwart investment, accounting for 42.8% of assets.