Monday, October 6, 2008

Financial crisis truly going global - even Iceland's in trouble

Kathleen Pender, Net Worth

Monday, October 6, 2008

(10-06) 19:01 PDT -- Stock markets around the world went into a frenzy today amid fresh signs that the credit crisis is spreading globally and threatening to spin out of control.

In the United States, the Dow Jones industrial average plunged 800 points during the day but trimmed its losses to close at to 9,944.40, down 369.88 points, or 3.6 percent. It was the average's first close below 10,000 since October 2004.

The Standard & Poor's 500 index fell 3.9 percent to its lowest close in almost five years. Only 49 of the 500 companies in the index rose. The tech-heavy Nasdaq composite fell 4.3 percent.

Investors ignored any benefits that might come from the $700 billion bailout bill approved by Congress last week and instead focused on developments overseas.

Following the U.S. playbook, European governments raced to rescue a slew of failing institutions over the weekend.

Germany agreed to insure all retail bank accounts and offered a $69 billion bailout of Hypo Real Estate, the nation's second-largest mortgage lender, after private lenders pulled out of an earlier rescue plan last week.

The governments of Belgium and Luxembourg arranged a complicated rescue of Fortis, a Dutch-Belgian-Luxembourg insurance and banking concern, by French bank BNP Paribas - again after a previous deal fell through.

In Iceland, things are so dire the government is considering using pension funds to rescue its ailing banking system, which swelled far out of proportion during the go-go-years and is now on the verge of collapse.

Stock markets around the globe tanked today. European stock exchanges posted declines ranging from 5.5 percent (Belgium) to 12 percent (Ireland), according to MSCI Barra. Brazil, Russia and Iceland temporarily halted trading in their stock markets to stem heavy declines.

How did the credit crisis, which started in the United States, go global?

U.S. financial engineers thought that they could spread the risk of individual loans going bad by packaging home, auto, credit card and other debt into complex securities and selling them to investors around the world. Many investors, relying on overly optimistic ratings issued by U.S. debt-rating agencies, used these securities as collateral to borrow more money.

Instead of spreading the risk, however, this process, called securitization, is now spreading fear.

When some mortgage-backed securities started performing worse than expected, investors worldwide became wary of all such securities and the market for them shut down. Not knowing how much they are really worth or who, exactly, owns them, investors and banks are afraid of lending to financial institutions, or putting new equity capital into them. That has led to a near-freeze worldwide in the availability of credit, which is threatening to choke off the global economy.

The crisis was not entirely U.S.-made however. In many developed countries, banks had become overextended, lending more than their deposit base in some cases, says Josephine Jimenez, who is launching a new emerging-markets fund called the Victoria 1522 fund. When depositors started withdrawing money, out of fear or necessity, many banks had to rein in their lending. Without access to new capital, some could become insolvent.

Hoping to prevent a run on their banks, the governments of Austria, Sweden, Denmark, the United Kingdom, Greece, Italy, France and Iceland have all raised or eliminated the ceiling on deposit insurance.

World credit markets showed few signs of improvement today.

Investors continued to snap up U.S. Treasury securities, considered a safe haven during a crisis. That pushed their prices up and their yields, which move in the opposite direction, down. The yield on the two-year Treasury notes fell 0.14 percentage point to 1.45 percent.

The London interbank offered rate, or Libor, for 3-month loans in U.S. dollars, fell slightly to 4.29 percent from 4.33 percent Friday, according to Bloomberg.com. The rate is a daily average of what banks charge other banks to lend money for various time periods in various currencies. The higher the rate, the more fear there is in the banking system. The Libor rate on overnight dollar loans increased to 2.37 percent from 2 percent on Friday.

Oil prices fell again today on concerns that a global economic slowdown could reduce energy demand. Crude-oil futures closed at $87.81 per barrel, down $6.07, on the New York Mercantile Exchange.

Including today's collapse, the Dow Jones industrial average is down almost 25 percent this year and almost 30 percent since its peak in October 2007.

"It's the most vicious bear market I've ever seen," says Thornton O'glove, who founded the Quality of Earnings Report and has been following the markets since 1967.

Although he would not be surprised to see a few more short-term rallies, based on previous bear markets he predicts the Dow could fall 50 percent from its previous high before turning up for good. We're three-fifths of the way there already.

Net Worth runs Tuesdays, Thursdays and Sundays. E-mail Kathleen Pender at kpender@sfchronicle.com.

http://sfgate.com/cgi-bin/article.cgi?f=/c/a/2008/10/06/MNQN13CDLT.DTL

No comments: