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MONTHLY REVIEW Of Credit and Business Conditions F E D E R A L R E S E R V E B A N K OF N E W Y O R K V o l . 28 O C T O B E R 19 46 No. 10 MONEY MARKET IN SEPTEMBER Major developments in the money market during the past month included moderate declines in Government bond prices, apparently in sympathy with the sharp decline in stock prices and the more limited recessions in corporate bond prices, and considerable pressure on member bank
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  MONTHLY REVIEW Of Credit and Business Conditions FEDERAL RESERVE BANK OF NEW YORK  V  ol . 28 OCTOBER 1946 No. 10 MONEY MARKET IN SEPTEMBER Major developments in the money market during the past month included moderate declines in Government bond prices, apparently in sympathy with the sharp decline in stock prices and the more limited recessions in corporate bond prices, and considerable pressure on member bank reserve positions which resulted chiefly from Treasury debt transactions and income tax receipts, and to a lesser extent from a seasonal increase in currency in circulation and increased reserve requirements. Member bank demands on Federal Reserve credit were consequently substantial during most of September.There were further signs   of stiffening   short term interest rates in the money market in September in the form of some what higher quotations on commercial paper, and long term interest rates also rose slightly as bond prices reacted in sympathy with the sharp setback in the stock market. Govern ment bond prices declined about Vz   to of 1 point in the first three weeks of the month and then showed some recovery in the last week. The recession in Governments”, however, goes back to March and early April when the various issues reached peak levels, as shown for selected Treasury bonds in the accompanying chart. Prices of the Victory Loan IVis   of 1967-72, plotted in the chart, have fluctuated more widely during the year than most other issues (exemplified by the 2s of December 1952-54, eligible for bank investment, and the 2i4’s of 1956-59, ineligible until September 15, 1946), having risen from 101 Vz   in January to 106 Vz   in early April and then fallen below 102 during September. The wider range is attributable in part to the longer maturity of the  Victory bonds and in part to the large speculative interest in the issue dating back to heavy subscriptions in the Victory Loan drive financed by bank loans, a portion of which were made for speculative purposes.Price advances of Government bonds in the early part of the year, as throughout the war, had their source in (1) low interest rates maintained to facilitate the Governments financ ing during the conflict and in the early postwar period, (2) heavy commercial bank purchases, from nonbank investors, of unrestricted Treasury bonds, frequently with funds obtainedfrom the sale of short term Treasury issues directly and indi rectly to the Federal Reserve System, and (3) substantial purchases of restricted issues by nonbank investors with the proceeds of the sale of unrestricted issues to the banks or other available funds. In the case of the Victory 2Vis  , demand was enhanced by the strong position of the Treasury’s finances which indicated that the Government would not have to undertake new financing for some time. The dearth of new supplies of investments suitable for insurance companies and other institutional investors lent scarcity value to the 2 V    i s    and other restricted issues in view of the continuing accumu lation of funds by such institutions.With the initiation in March of the Treasury’s program of retiring part or all of its maturing or called securities, con siderable pressure on bank reserves ensued, since sizable blocks of redeemed securities were held by the Reserve Banks and the Treasury withdrew funds from commercial banks for their redemption. As a result, bank purchases of unrestricted bonds diminished, and there was a consequent reduction in the reinvestment demand for restricted bonds on the part of non- Prices of Selected Treasury Bonds* PRICE 1946 * Averages of closing bid and asked prices, Wednesday dates.  86 MONTHLY REVIEW, OCTOBER 1946 bank investors. At the same time, some banks with inade quate holdings of short term issues found it necessary to sell Treasury bonds in the open market in order to meet the Treasury’s calls on War Loan deposits, chiefly in connection with the debt retirement operations. A hardening of short term interest rates replaced the earlier tendency toward lower levels, and was accentuated after the elimination of the Federal Reserve preferential rate on advances secured by short term Treasury issues toward the close of April.Thus, the forces contributing to higher Treasury bond prices were reversed and a sizable fall in Government bond prices and rise in yields set in. Pricewise, the decline in the Victory Loan 2 V  2 S  was greater than in most other Treasury bonds, not only because of their longer maturity, but also because pur chasers of these securities on credit for the purpose of resale at a profit liquidated considerable amounts of their sizable holdings, gradually but persistently.The Treasury 2V   a s   of 1956-59, which became eligible for bank investment on September 15, were firm around the middle of the month when other issues were falling along with stock prices. The strength in this issue apparently reflected buying principally by out-of-town banks; purchases were made largely with the proceeds of sales of other Treasury securities, including the Treasury 2’s of December 1952-54 which showed larger declines than many other Treasury issues in mid- September. Sellers of the 2lA*s   were provided with additional funds which they are reported to have invested in long term restricted bonds. M ember  B ank  R eserve  P ositions During the past month, the money market continued to reflect the influence of Treasury transactions, which were heavier than usual because of quarterly income tax receipts and interest payments, in addition to the first-of-the-month cash redemption of part of the maturing issue of certificates of indebtedness. The net effect of these transactions was to place considerable strain on the reserve positions of member banks and particularly of those banks in certain parts of the country which had net losses of reserves as a result of Treasury withdrawals and tax collections. A seasonal increase in cur rency in circulation early in the month was the source of an additional drain on reserves. Reserve requirements rose sub stantially in the first half of the month, as a portion of the funds withdrawn by the Treasury from its reserve-free War Loan deposits in the beginning of September reached private deposit accounts against which reserves must be maintained, and as an expansion in bank credit, chiefly in the form of loans, caused an increase in private deposits and an accom panying rise in required reserves. Bank demand for Federal Reserve credit to ease these pressures was substantial, and as a result Federal Reserve Bank purchases of short term Govern ment securities were substantial and loans to member banks increased.With collections of quarterly instalments of income taxes continuing close to the heavy wartime totals while the expenses of the Government were substantially lower than during the war, Treasury receipts were considerably in excess of current disbursements in the month as a whole despite the usual large quarterly payments of interest on the public debt in the middle of September. As a result, the Treasury made no further with drawals from War Loan deposits after that totaling 2.0 billion dollars, payable on September 3, 4, and 5, which was made in connection with the redemption of a like amount of a 4.3 billion dollar issue of certificates of indebtedness maturing on September 1.In the two weeks ended September 25, the full flow of quarterly income tax payments reached the Treasury, resulting in a large excess of receipts, and Treasury deposits with the Federal Reserve Banks reached the substantial total of 928 million dollars on September 25, thus enabling the Treasury to reduce its War Loan calls in connection with the October 1 cash redemption of an additional 2 billion dollars of certificates of indebtedness. In the first of these two weeks, tax receipts were offset to a large extent by the payment of approximately 425 million dollars in interest on the public debt, most of which was made on September 16. Nevertheless, the net effect of Treasury operations during the week was to exert some pressure on member bank reserves. A further increase in reserve requirements, only partly offset by a reduction in currency outstanding connected in part with payment of taxes in cash, added to this pressure. Demand for Federal Reserve credit from the banks was sizable, the increase of 115 million dollars in excess reserves merely reflecting the elimination by New York City banks of a deficiency in reserves of the pre ceding week.In the final week of this period, tax receipts reached their peak and pressure on bank reserve positions was further increased, even though the payment of taxes into the Treasury by individuals and businesses brought a substantial reduction of demand deposits and a decline of about 150 million dollars in reserve requirements. As a result, the Federal Reserve Banks were called upon to make additional loans to the mem ber banks and to purchase almost 450 million dollars of Treasury bills and certificates. Excess reserves fell 160 million dollars in the week to 770 million dollars.Reserve positions of the New York City member banks also were under pressure during most of the month. Transfers of funds to other parts of the country totaled 880 million dollars in the four weeks ended September 25, reflecting both withdrawals of the proceeds of the redemption of certificates held in New York and transfers by corporations of balances held in the City for payment of income taxes in other localities.  FEDERAL RESERVE BANK OF NEW YORK87 Reserve requirements rose during most of this period, and moderate currency withdrawals were made in each of the four weeks. The only sizable offset to the drain on reserves was net payments out of foreign balances in the Reserve Banks. Treasury disbursements in New York exceeded receipts here in the early part of the month when expenditures for debt redemption were large, and again in the middle of the month because of heavy interest payments on the public debt. Over the entire four-week period under review, however, the Treasury took more funds out of the New York money market than it returned to it, largely because of heavy tax collections in the latter part of the month. The net effect of all these transactions was to create a substantial need for reserves, and the New York banks sold large amounts of Treasury bills and certificates of indebtedness in the course of the month, most of which were absorbed by the Federal Reserve System.THE SECURITY MARKETS DURING THE TRANSITIONThe sharp downturn in stock prices during the past month carried the average level, measured by the Standard and Poor’s Corporation index of 402 stocks, down by about 12 per cent, and, added to the gradual recession of the three preceding months, made the total fall from the peak at the end of May about 21 per cent. Many individual stocks and groups of stocks, of course, had much greater drops from their peak levels. A correction” of some magnitude at some time before the end of this year had been rather generally expected, in view of the almost uninterrupted rise in the general level of stock prices for four years, but the extent of the fall was apparently greater than had been anticipated. An irregular and limited recovery occurred in the final week of September. The extent of the recession and the recent levels of prices of the three major groups—industrials, railroads, and public utilities—can be seen in perspective in the accom panying chart, which shows price movements of these groups over most of the period since the beginning of the war. The major swings in stock prices during and since the war are summarized in the table. The indexes shown in the chart Percentage Changes in Stock Prices during the War and Transition*GroupPrewar to war period low#War period low to war’s endWar’s end to post war highjPostwar high to Sept. 25, 1946PrewartoSept. 25, 1946402 stocks ............................... — 32b 93+ 35— 21+ 4120 railroad stocks ............. — 6[-115+ 27— 30+ 7828 public utility stocks. ..— 46-102+ 23— 18+ 10354 industrial stocks ........ — 30- 90+ 38— 21+ 4569 peace stocks ........... — 39b-117+ 43— 19-f 5335 war stocks .............. — 32+ 52+ 41— 21+ 16* Based on weekly stock prices. High and low points based on the composite index of 402 stocks.# August 30,1939 (September 6,1939 for war and peace stocks) to April 29,1942. t  May 29, 1946.Source: Standard and Poor’s Corporation. Standard and Poor’s Weekly Indexes of Industrial, Railroad,   and Public Utility Stock Prices*(1935-39 weekly average = 100 per cent) PER CENT * Indexes of 354 industrial, 20 railroad, and 28 utility stock prices; data are for the last Wednesday of each month. are based on average weekly prices for the years 1935-39, whereas most of the data in the table are based on comparisons with prices at the end of August 1939, which were below the 1935-39 average levels by varying amounts for different groups of stocks.The factors involved in the wide fluctuations in stock prices during the war—the decline in value of about one third between the early stages of the war and the low point of the war period in April 1942, when the low ebb of Allied fortunes in the war was reached, and the subsequent long advance in prices as Allied prospects brightened until victory became a certainty and as the volume of business grew to new heights and corporate financial positions strengthened substantially— were surveyed in the May 1945 issue of this Review.  From the1942 low point to the end of the war in mid-August 1945, stocks just fell short of doubling in price on the average. Rail road shares, which showed the smallest decline of the three major industrial groups in the first years of the war, subse quently made the greatest gain. The increase in utility stock prices was also marked, with the industrials lagging somewhat behind. Among the industrial issues, however, prices of peace” stocks more than doubled, while the war” issues (which include those of aircraft, shipbuilding, railway equip ment, and steel corporations) advanced only 50 per cent from the April 1942 low point. Compared with price levels imme diately before the war, stock values were approximately one- third higher at the end of the war, a somewhat smaller increase than in wholesale commodity prices, and a considerably smaller increase than occurred in national income, and especially in business profits.  88 MONTHLY REVIEW, OCTOBER 1946 In the first nine months of the transition period, common stock prices continued the advance of the previous 40 months, but the rate of gain, which might have been expected to slow down, actually accelerated. Between mid-August 1945 and the close of May 1946, stocks made the striking gain of 35 per cent, a monthly rate of increase about half again as large as in the preceding period of rising prices. At the peak in May1946, the combined index of 402 stocks stood 78 per cent higher than just before the war, but was only 13 per cent above the 1937 high point, although gross national product and corporate profits were substantially higher.Industrial issues led in the postwar advance. Both ’peace” and war” stocks made better than average gains, and in fact the rise in ‘war” stock values after the war was greater than during the conflict. In part this reflected the fact that the steel issues were included in the war stock averages and post war demands for steel proved to be greater than had been generally expected. In addition, investors may have adopted a more favorable view of the peacetime prospects of the war” industries after the end of hostilities than they held during the war as a result of the announced expansion into other fields of many companies in those industries and the expectation of wider profit margins on peacetime business.During this period, the general optimism with which the postwar business outlook was regarded carried prices of low priced stocks to such a point that Barron’s was compelled to abandon the compilation of its index of 30 low priced stocks for lack of suitable securities. The rise in prices of railroad and utility shares lagged considerably behind that of the industrials in this period, however. In fact, the peak in railroad stocks was reached early in February. This was also the case for the automobile and electrical equipment groups among the indus trials. The relatively small price gains made in these industries reflected the prolonged wage disputes besetting some of the major companies in these important fields and their suppliers and the other difficulties they have had in their efforts to restore their output to prewar levels. Conditions in these industries have been paralleled to some extent in other recon version” industries.The general level of stock prices turned down in June and declined at an average rate of 4 per cent a month through  August, with the decreases growing sharper toward the end of this period. Many investors were evidently growing restive watching their substantial long term profits dwindle, and the wave of selling that struck the stock market early in Septem ber apparently reflected in part the efforts of such investors to salvage their remaining gains (or to limit losses). Prices dropped at the rate of about 4 per cent a week in the first three weeks of September, as sharp a setback as that which occurred in 1937. The decline since the end of May canceled practically the entire preceding postwar advance and elim inated 36 per cent of the April 1942—May 1946 upswing.On September 25 of this year, the price index of 402 stocks had receded to a level only 41 per cent above the August 30, 1939 level. Prices of railroad stocks, which were particularly depressed before the war, still showed a net gain of 78 per cent, the industrials 45 per cent, and the utilities only 10 per cent.Railroad shares have been particularly weak recently, reflect ing the effects on net income of rising costs of operation, including the increase in their wage and other costs and the relative inflexibility of the charges for their services. Stocks of automobile and electrical equipment companies reacted more sharply than other industrials, as frequent wild-cat” strikes and shortages of one material or component part after another retarded the growth of output in these industries and prevented more economical production, thus impairing profit margins. The utilities showed the smallest price declines of the three major groups, just as they had shown the smallest advance in the nine months following the end of the war.Because transactions on the stock exchanges have been so largely on a cash basis, the repercussions of the decline in stock prices on business activity can hardly be as great as on some occasions in the past when credit was much more exten sively employed. The reduction of bank loans for the purpose of purchasing or carrying stocks has been negligible, in con trast to past periods of severe stock price declines when whole sale repayment of security loans brought about a substantially larger contraction in demand deposits. Consequently, the substantial decline in security prices has not brought about any material reduction in the aggregate volume of liquid assets at the disposal of the public. Since the turnover of securities in a cash market merely results in a shift in the ownership of cash assets, the vast reservoir of purchasing power remains unchanged. Some individuals, however, may own more and others less depending upon whether their trading in stocks has resulted in profit or loss. The main questions concerning the effects of the fall in stock prices on business are whether it will induce a more cautious attitude on the part of business and the general public with respect to expenditures and com mitments, and how long it will prove to be a serious obstacle to needed business financing through new security issues. C orporate  B ond  M arket The recession in stock prices was accompanied by a more moderate decline in bond prices, particularly among the lower grade railroad and other junior issues. The decline in bond prices (and rise in bond yields) had been in progress for several months, apparently influenced by the tendency of short term interest rates to firm as well as by other factors, but the decline was at an accelerated rate during the Septem ber slump in stock prices.In the unusually strong corporate bond market that pre vailed during and for some time after the war, the average yield of Aaa bonds computed by Moody’s declined from 2.93
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