Doug Henwood wrote:
I notice that a while back, you and other fans of "unfolding crisis"
were citing bourgeois sources for support. Now that most bourgeois
sources think that the worst of the financial crisis is probably over,
you're not citing bourgeois sources any more, eh?
This must be a difficult time for you, eh Doug:
http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2008/06/18/cnrbs118.xml
RBS issues global stock and credit crash alert
By Ambrose Evans-Pritchard, International Business Editor
The Royal Bank of Scotland has advised clients to brace for a
full-fledged crash in global stock and credit markets over the next
three months as inflation paralyses the major central banks.
"A very nasty period is soon to be upon us - be prepared," said Bob
Janjuah, the bank's credit strategist.
A report by the bank's research team warns that the S&P 500 index of
Wall Street equities is likely to fall by more than 300 points to around
1050 by September as "all the chickens come home to roost" from the
excesses of the global boom, with contagion spreading across Europe and
emerging markets.
Such a slide on world bourses would amount to one of the worst bear
markets over the last century.
RBS said the iTraxx index of high-grade corporate bonds could soar to
130/150 while the "Crossover" index of lower grade corporate bonds could
reach 650/700 in a renewed bout of panic on the debt markets.
"I do not think I can be much blunter. If you have to be in credit,
focus on quality, short durations, non-cyclical defensive names.
"Cash is the key safe haven. This is about not losing your money, and
not losing your job," said Mr Janjuah, who became a City star after his
grim warnings last year about the credit crisis proved all too accurate.
RBS expects Wall Street to rally a little further into early July before
short-lived momentum from America's fiscal boost begins to fizzle out,
and the delayed effects of the oil spike inflict their damage.
"Globalisation was always going to risk putting G7 bankers into a
dangerous corner at some point. We have got to that point," he said.
US Federal Reserve and the European Central Bank both face a Hobson's
choice as workers start to lose their jobs in earnest and lenders cut
off credit.
The authorities cannot respond with easy money because oil and food
costs continue to push headline inflation to levels that are unsettling
the markets. "The ugly spoiler is that we may need to see much lower
global growth in order to get lower inflation," he said.
"The Fed is in panic mode. The massive credibility chasms down which the
Fed and maybe even the ECB will plummet when they fail to hike rates in
the face of higher inflation will combine to give us a big sell-off in
risky assets," he said.
Kit Jukes, RBS's head of debt markets, said Europe would not be immune.
"Economic weakness is spreading and the latest data on consumer demand
and confidence are dire. The ECB is hell-bent on raising rates.
"The political fall-out could be substantial as finance ministers from
the weaker economies rail at the ECB. Wider spreads between the German
Bunds and peripheral markets seem assured," he said.
Ultimately, the bank expects the oil price spike to subside as the more
powerful force of debt deflation takes hold next year.
***
The Telegraph
Morgan Stanley warns of 'catastrophic event' as ECB fights Federal Reserve
By Ambrose Evans-Pritchard, International Business Editor
Last Updated: 1:29am BST 17/06/2008
The clash between the European Central Bank and the US Federal Reserve
over monetary strategy is causing serious strains in the global
financial system and could lead to a replay of Europe's exchange rate
crisis in the 1990s, a team of bankers has warned.
"We see striking similarities between the transatlantic tensions that
built up in the early 1990s and those that are accumulating again today.
The outcome of the 1992 deadlock was a major currency crisis and a
recession in Europe," said a report by Morgan Stanley's European experts.
Just as then, Washington has slashed rates to bail out the banks and
prevent an economic hard-landing, while Frankfurt has stuck to its
hawkish line - ignoring angry protests from politicians and squeals of
pain from Europe's export industry.
Indeed, the ECB has let the de facto interest rate - Euribor - rise by
over 100 basis points since the credit crisis began.
Just as then, the dollar has plummeted far enough to cause worldwide
alarm. In August 1992 it fell to 1.35 against the Deutsche Mark: this
time it has fallen even further to the equivalent of 1.25. It is
potentially worse for Europe this time because the yen and yuan have
also fallen to near record lows. So has sterling.
Morgan Stanley doubts that Europe's monetary union will break up under
pressure, but it warns that corked pressures will have to find release
one way or another.
This will most likely occur through property slumps and banking purges
in the vulnerable countries of the Club Med region and the
euro-satellite states of Eastern Europe.
"The tensions will not disappear into thin air. They will find fault
lines on the periphery of Europe. Painful macro adjustments are likely
to take place. Pegs to the euro could be questioned," said the report,
written by Eric Chaney, Carlos Caceres, and Pasquale Diana.
The point of maximum stress could occur in coming months if the ECB
carries out the threat this month by Jean-Claude Trichet to raise rates.
It will be worse yet - for Europe - if the Fed backs away from expected
tightening. "This could trigger another 'catastrophic' event," warned
Morgan Stanley.
The markets have priced in two US rates rises later this year following
a series of "hawkish" comments by Fed chief Ben Bernanke and other US
officials, but this may have been a misjudgment.
An article in the Washington Post by veteran columnist Robert Novak
suggested that Mr Bernanke is concerned that runaway oil costs will
cause a slump in growth, viewing inflation as the lesser threat. He is
irked by the ECB's talk of further monetary tightening at such a
dangerous juncture.
The contrasting approaches in Washington and Frankfurt make some sense.
America's flexible structure allows it to adjust quickly to shocks.
Europe's more rigid system leaves it with "sticky" prices that take
longer to fall back as growth slows.
Morgan Stanley says the current account deficits of Spain (10.5pc of
GDP), Portugal (10.5pc), and Greece (14pc) would never have been able to
reach such extreme levels before the launch of the euro.
EMU has shielded them from punishment by the markets, but this has
allowed them to store up serious trouble. By contrast, Germany now has a
huge surplus of 7.7pc of GDP.
The imbalances appear to be getting worse. The latest food and oil spike
has pushed eurozone inflation to a record 3.7pc, with big variations by
country. Spanish inflation is rising at 4.7pc even though the country is
now in the grip of a full-blown property crash. It is still falling
further behind Germany. The squeeze required to claw back lost
competitiveness will be "politically unpalatable".
Morgan Stanley said the biggest risk lies in the arc of countries from
the Baltics to the Black Sea where credit growth has been roaring at
40pc to 50pc a year. Current account deficits have reached 23pc of GDP
in Latvia, and 22pc in Bulgaria. In Hungary and Romania, over 55pc of
household debt is in euros or Swiss francs.
Swedish, Austrian, Greek and Italian banks have provided much of the
funding for the credit booms. A crunch is looming in 2009 when a wave of
maturities fall due. "Could the funding dry up? We think it could," said
the bank.
***
The Bubble
How homeowners, speculators and Wall Street dealmakers rode a wave of
easy money with crippling consequences.
By Alec Klein and Zachary A. Goldfarb
The Washington Post
Sunday, June 15, 2008; Page A01
Part I ยท Boom
The black-tie party at Washington's swank Mayflower Hotel seemed a
fitting celebration of the biggest American housing boom since the
1950s: filet mignon and lobster, a champagne room and hundreds of
mortgage brokers, real estate agents and their customers gyrating to a
Latin band.
On that winter night in 2005, the company hosting the gala honored
itself with an ice sculpture of its logo. Pinnacle Financial had grown
from a single office to a national behemoth generating $6.5 billion in
mortgages that year. The $100,000-plus party celebrated the booming
division that made loans largely to Hispanic immigrants with little
savings. The company even booked rooms for those who imbibed too much.
ad_icon
Kevin Connelly, a loan officer who attended the affair, now marvels at
those gilded times. At his Pinnacle office in Virginia, colleagues were
filling the parking lot with BMWs and at least one Lotus sports car. In
its hiring frenzy, the mortgage company turned a busboy into a loan
officer whose income zoomed to six figures in a matter of months.
"It was the peak. It was the embodiment of business success," Connelly
said. "We underestimated the bubble, even though deep down, we knew it
couldn't last forever."
Indeed, Pinnacle's party would soon end, along with the nation's housing
euphoria. The company has all but disappeared, along with dozens of
other mortgage firms, tens of thousands of jobs on Wall Street and the
dreams of about 1 million proud new homeowners who lost their houses.
The aftershocks of the housing market's collapse still rumble through
the economy, with unemployment rising, companies struggling to obtain
financing and the stock market more than 10 percent below its peak last
fall...
***
Asia Times
Jun 12, 2008
Next up - the credit default swap crisis
By F William Engdahl
While attention has been focussed on the relatively tiny US subprime
home mortgage default crisis as the center of the current financial and
credit crisis impacting the Anglo-Saxon banking world, a far larger
problem is now coming into focus.
Subprime, or high-risk collateralized mortgage obligations (CMOs), are
only the tip of a colossal iceberg of dodgy credits that are beginning
to go sour. The next crisis is already beginning in the US$62 trillion
market for credit default swaps (CDS).
The credit default swap was invented a few years ago by a young
Cambridge University mathematics graduate, Blythe Masters, hired by JP
Morgan Chase Bank in New York and who, fresh from university, convinced
her new bosses to develop the revolutionary new risk product.
A CDS is a credit derivative or agreement between two counterparties in
which one makes periodic payments to the other and gets a promise of a
payoff if a third party defaults. The first party gets credit
protection, a kind of insurance, and is called the "buyer". The second
party gives credit protection and is called the "seller". The third
party, the one that might go bankrupt or default, is known as the
"reference entity". CDSs became staggeringly popular as credit risks
exploded during the past seven years in the United States. Banks argued
that with CDS they could spread risk around the globe.
Credit default swaps resemble an insurance policy as they can be used by
debt owners to hedge, or insure against, a default on a debt. However,
because there is no requirement to actually hold any asset or suffer a
loss, credit default swaps can also be used for speculative purposes.
Warren Buffett once described derivatives bought speculatively as
"financial weapons of mass destruction". In his Berkshire Hathaway
annual report to shareholders he said:
Unless derivatives contracts are collateralized or guaranteed, their
ultimate value depends on the creditworthiness of the counterparties. In
the meantime, though, before a contract is settled, the counterparties
record profits and losses - often huge in amount - in their current
earnings statements without so much as a penny changing hands. The range
of derivatives contracts is limited only by the imagination of man (or
sometimes, so it seems, madmen).
A typical CDO is for a five-year term. Like many exotic financial
products that are extremely complex and profitable in times of easy
credit, when markets reverse, as has been the case since August 2007, in
addition to spreading risk, credit derivatives, in this case, also
amplify risk considerably.
Now the other shoe is about to drop in the $62 trillion CDS market due
to rising junk bond defaults by US corporations as the recession
deepens. That market has long been a disaster in the making. An
estimated $1.2 trillion could be at risk of the nominal $62 trillion in
CDOs outstanding, making it far larger than the subprime market.
No regulation
A chain reaction of failures in the CDS market could trigger the next
global financial crisis. The market is entirely unregulated, and there
are no public records showing whether sellers have the assets to pay out
if a bond defaults. This so-called counterparty risk is a ticking time
bomb. The US Federal Reserve under the former ultra-permissive chairman,
Alan Greenspan, and the US government's financial regulators allowed the
CDS market to develop entirely without supervision. Greenspan repeatedly
testified to skeptical congressmen that banks are better risk regulators
than government bureaucrats.
The Fed bailout of Bear Stearns on March 17 this year was motivated, in
part, by a desire to keep the unknown risks of that bank's credit
default swaps from setting off a global chain reaction that might have
brought the financial system down. The Fed's fear was that because it
didn't adequately monitor counterparty risk in credit-default swaps, it
had no idea what might happen. Thank Greenspan for that. Those
counterparties include JPMorgan Chase, the largest seller and buyer of CDSs.
The Fed does not have supervision to regulate the CDS exposure of
investment banks or hedge funds, both of which are significant CDS
issuers. Hedge funds, for instance, are estimated to have written 31% in
CDS protection.
The credit-default-swap market has been mainly untested until now. The
default rate in January 2002, when the swap market was valued at $1.5
trillion, was 10.7%, according to Moody's Investors Service. But Fitch
Ratings reported in July 2007 that 40% of CDS protection sold worldwide
was on companies or securities that are rated below investment grade, up
from 8% in 2002.
A surge in corporate defaults will now leave swap buyers trying to
collect hundreds of billions of dollars from their counterparties. This
will serve to complicate the financial crisis, triggering numerous
disputes and lawsuits, as buyers battle sellers over the technical
definition of default - this requires proving which bond or loan holders
weren't paid - and the amount of payments due. Some fear that could in
turn freeze up the financial system.
Experts inside the CDS market now believe that the crisis will likely
start with hedge funds that will be unable to pay banks for contracts
tied to at least $150 billion in defaults. Banks will try to pre-empt
this default disaster by demanding hedge funds put up more collateral
for potential losses. That will not work as many of the funds won't have
the cash to meet the banks' demands for more collateral.
Sellers of protection aren't required by law to set aside reserves in
the CDS market. While banks ask protection sellers to put up some money
when making the trade, there are no industry standards. It would be the
equivalent of a licensed insurance company selling insurance protection
against hurricane damage with no reserves against potential claims.
Basle BIS worried
The Basle Bank for International Settlements, the supervisory
organization of the world's major central banks, is alarmed at the
dangers. The Joint Forum of the Basel Committee on Banking Supervision,
an international group of banking, insurance and securities regulators,
wrote in April that the trillions of dollars in swaps traded by hedge
funds pose a threat to financial markets around the world.
"It is difficult to develop a clear picture of which institutions are
the ultimate holders of some of the credit risk transferred," the report
said. "It can be difficult even to quantify the amount of risk that has
been transferred."
Counterparty risk can become complicated in a hurry. In a typical CDS
deal, a hedge fund will sell protection to a bank, which will then
resell the same protection to another bank, and such dealing will
continue, sometimes in a circle. That has created a huge concentration
of risk. As one leading derivatives trader expressed the process:
The risk keeps spinning around and around in this daisy chain like a
vortex. There are only six to 10 dealers who sit in the middle of all
this. I don't think the regulators have the information that they need
to work that out.
Traders, and even the banks that serve as dealers, don't always know
exactly what is covered by a credit-default-swap contract. There are
numerous types of CDSs, some far more complex than others. More than
half of all CDSs cover indexes of companies and debt securities, such as
asset-backed securities, the Basel committee says. The rest include
coverage of a single company's debt or collateralized debt obligations.
Banks usually send hedge funds, insurance companies and other
institutional investors e-mails throughout the day with bid and offer
prices, as there is no regulated exchange to price the market or to
insure against loss. To find the price of a swap on Ford Motor Co debt,
for example, even sophisticated investors might have to search through
all of their daily e-mails.
Banks want secrecy
Banks have a vested interest in keeping the swaps market opaque, because
as dealers, the banks have a high volume of transactions, giving them an
edge over other buyers and sellers. Since customers don't necessarily
know where the market is, you can charge them much wider profit margins.
Banks try to balance the protection they've sold with credit-default
swaps they purchase from others, either on the same companies or
indexes. They can also create synthetic CDOs, which are packages of
credit-default swaps the banks sell to investors to get themselves
protection.
The idea for the banks is to make a profit on each trade and avoid
taking on the swap's risk. As one CDO dealer puts it, "Dealers are just
like bookies. Bookies don't want to bet on games. Bookies just want to
balance their books. That's why they're called bookies."
Now as the economy contracts and bankruptcies spread across the United
States and beyond, there's a high probability that many who bought swap
protection will wind up in court trying to get their payouts. If things
are collapsing left and right, people will use any trick they can.
Last year, the Chicago Mercantile Exchange set up a federally regulated,
exchange-based market to trade CDSs. So far, it hasn't worked. It's been
boycotted by banks, which prefer to continue their trading privately.
F William Engdahl is the author of A Century of War: Anglo-American Oil
Politics and the New World Order, Pluto Press Ltd. Further articles can
be found at his website, www.engdahl.oilgeopolitics.net.
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