|
PARIS: The link between repossessed houses in the
United States and wealthy moneymen around the world is the key to
understanding the current stock market turbulence and fears for the
world economy.
Markets in the United States,
Europe and Asia were rattled last week in what could be either the
start of a downturn or a simple correction similar to one seen in
February this year.
Only three weeks ago, the main US
stock index, the Dow Jones Industrial Average, had broken through
14,000 points for the first time in its history, but sentiment has
reversed sharply in recent weeks.
The turning point came last month
when a US bank, Bear Stearns, spooked the markets with news of major
losses and accounting difficulties with its investments linked to
risky US housing loans.
Losses by other banks and
investment funds have led to what has been termed the “US subprime
housing crisis,” the source of turbulence and uncertainty last
week.
Subprime loans are housing loans
made by lenders to individuals with poor credit histories and are
therefore risky.
Following years of booming house
prices and cheap credit—interest rates have been low by historical
standards—the US housing market is now in reverse with loans
becoming more expensive and prices falling.
This has caused high numbers of
defaults and repos-sessions as borrowers, particularly high-risk
subprime borrowers, struggle to keep up with their mortgage
payments.
The human face of the current
financial crisis is likely to be a low-earning American, possibly
someone who took on a mortgage they could ill-afford and whose
mortgage broker did inadequate checks on their ability to repay.
The link between these people and
turmoil in financial markets involves a piece of financial trickery
that has enabled banks and funds all over the world to make
investments that are essentially bets on borrowers repaying their
mortgages.
Funds looking for a high-risk,
high-return investment have bought unknown numbers of innovative
securities called mortgage-based securities (MBS) or asset-based
securities (ABS), and their variants such as collateralized debt
obligations (CDOs).
Questions about the scale and
scope of these investments—i.e. who has bought them and how much
are they exposed—has caused volatility on world stock markets with
investors waiting to see who has been caught short.
So far, banks in Germany,
Australia and Britain have revealed losses and several funds have
closed because of severe losses.
The sharp falls on Thursday and
Friday were sparked by an announcement by French bank BNP Paribas
that three of its investment funds had been suspended because of
their exposure to subprime loans.
“The big question is what is
the overall amount [of sub-prime-linked investments] and this is bad
for the markets because if there is one thing that the markets hate,
it is uncertainty,” Gilles Moec, senior economist with Bank of
America in London, told AFP.
So far, so bad—but losses by a
few risk-loving investors is only half the story with the real
danger to the global economy the consequences that might trickle
down to consumers or companies.
Banks are now setting aside cash
as a precaution against further losses from their bad investments
and have become far more cautious about lending.
This is known as a “credit
squeeze,” but the fear is that this could become a veritable
“credit crunch” in which companies and consumers have inadequate
access to loans.
“As private sector banks, in a
time of uncertainty, set aside more funds for their own funding
needs, we are seeing a shortage of liquidity in the money
markets,” explained Societe Generale’s chief Asia economist,
Glenn Maguire.
A shortage of liquidity would
restrict the ability of companies, and eventually consumers, to
borrow, potentially slowing economic growth worldwide.
As a result, central banks across
the world have been pumping money into the banking system by
offering loans at attractive interest rates to commercial banks in
the hope of forestalling a damaging crunch.
The European Central Bank put a
record 94.8 billion euros into the market on Thursday and followed
up with another 61.05 billion euros on Friday.
The Federal Reserve for its part
pumped $62 billion into the US banking system since Thursday,
intervening three times on Friday to shore up the country’s
financial system.
For some, the tightening of
borrowing conditions is well overdue and the subprime crisis is a
sting in the tail after years of easy money and lax lending by banks
and mortgage brokers.
The consequences for the stock
market could be serious, however, particularly given that much of
the rise in stock prices in recent years has been caused by
aggressive takeover activity by private equity companies.
Private equity groups, investors
that specialize in increasing profits at underperforming groups,
rely on large amounts of debt to finance their acquisitions and they
might now have difficulty finding financial backing.
“There are two things I am more
or less sure about,” said Philippe Waechter, senior analyst at
French group Natexis Asset Management.
“One is that the financing
problem in the housing market is going to continue. The other is
that on the markets there is going to be a lot of volatility and for
the moment one can’t say if the low point has been
reached.”
 --AFP
|
