Feature1 - MarketCrash
Central Banks are running out of sandbags to stave off tides that, apparently ineluctably, threaten our markets and economies.
The Bear Stearns announcement on July 17, 2007, will be studied by future generations of business students as the start of the biggest market crash ever. In perspective, it was the zenith of a substantial rally and prices have slid since, albeit not in a straight line. Price action to date shows large, swift drops interrupted by lethargic rallies, excepting the two day surge of mid-September. This suggests that sellers are dumping big time while predators wait, buying small quantities but saving cash for super-discount prices later, after the market completes its plunge.
On July 17, 2007, Bear Stearns announced that two of its investment funds would cease operation after suffering heavy losses. These were subprime funds. "Subprime" is the current kitsch descriptor for loans extended to persons who, superficially, can’t afford to make loan payments. The two funds used money from investors to purchase into the lenders’ positions in subprime loans. When the mortgagees neglected or refused to pay instalments, Bear Stearns lost their investors’ money. Many other investment funds (your pension fund perhaps?) made similar errors, and their funds are likely to go out of business as well.
The difficulty is compounded by the impossibility of placing numbers on how much of which funds depend on the subprime market. Flexibility in investment vehicles has made it so easy to diversify that the flip-side of flexibility, namely security and certainty, has been compromised. Investors simply don’t know the risk that applies to their investments.
Since July 17, Central Banks around the world have tried everything to ward off a surge in bankruptcies. Among other things, they have tried the following:
1. Central Banks printed more money and placed more cash in circulation. This was both well-intentioned and perfectly lawful. The goal was to provide cash to banks such as Northern Rock that needed funds to avoid customers breaking down their doors. Banks were cash short, because they avoided lending money even to each other. They were afraid their fellow bankers wouldn’t repay these inter-bank loans!
2. Big banks in the United States put on a brave face and borrowed money from their Central Bank’s emergency lending fund. The banks made a big show of it. They claimed they didn’t need the money, but were borrowing to encourage other banks, that truly were in financial trouble, to come forward and borrow. Few people believed these claims.
3. Central Banks cut their respective interest rates, more or less in unison.
4. On August 31, 2007, US President Bush announced a mortgage relief plan. Details weren’t given except the President specifically denied that cash grants to homeowners would be part of the plan. In the absence of detail, there wasn’t much rebound in consumer confidence.
Despite the efforts of Central Banks and government, bankruptcies continue. Foreclosures are in the ascent. Housing starts and prices are in a slump. Stock markets are generally in decline. Each new action by Central Banks appears to prove the failure of previous efforts, and new initiatives are received with cynicism.
Even the September 18 large cuts in the US Fed Fund and Discount Rates haven’t had the desired effect. Sure, they boosted the stock market for a couple of days. But simultaneously they trashed the US Dollar! US bank customers could rationally believe that if their banks don’t lose their money, the Central Bank will gradually erode their savings. There won’t be much left! And the US Central Bank has promised even more interest rate cuts. It is reasonable to foresee a substantial loss in security within precisely the group whose peace of mind matters most, the group with most to lose, the babyboomers.
While this was happening, Canadian politicians dutifully stepped up to the plate, bragging about how Canada was immune to the US crisis. Guess they didn’t see the 100,000 layoffs coming at GM Canada announced today (as I write), September 24, 2007! We shall also see how higher prices abroad for Canadian products play out on Canada’s sales figures and job market.
(all rights reserved by raymond t. lee, copyright 2007 Raymond T. Lee, http://LeisurelyCashFlow.com )
