What if the Government doesn't intervene now...

There seems to be a debate whether the government should intervene and rescue the homeowners and lenders alike. What happens incase the government or the Federal Reserve doesn't intervene. Many think that if the Government doesn't do anything now, home prices will find a equilibrium based on fundamentals rather than what has pushed up prices over the last few years. Home prices might very well fall below the whatever the fundamental price needs to be, same way the prices did over shoot on their way up. When no one knows what the bottom is going to be, lenders wont be ready to lend at what they think are over priced houses. Buyers even if they want to will not be able to buy if there is no money to borrow. This in turn will push the prices down. Falling prices will deter new home buyers from buying since they would be waiting for the prices to fall still further.

Even if there are moral issues in helping the homeowners and the lenders who got us into this mess, Government and the Federal Reserve need to act to stop the financial industry from collapsing.

STOP THIS ..... Please

Take a look at the ad presented by Countrywide, it advertises about home loans without a credit report. Is this not what has brought the financial industry to its knees. Lenders ready to lend money to earn the commission and then sell the loan to a bigger Investment bank so that the risk is distributed. Borrowers borrowing more money than what they can afford. This has lead to the sub prime mortgages to turn sour and billions of dollars of securities to be worthless. A simple example of what's happening in the sub prime market here. I feel the Federal Reserve needs to come up with a better regulations to stop this.

Technorati Tags: Economy,Fed,SubPrime

Is Merrill Lynch safe ??

The fall of Bear Sterns, the fifth largest Investment bank on Wall street, raises a few doubts in my mind about the safety of others in the same Business. Bear Sterns was bought by JP Morgan for $2  a share i.e something like $236 million for the bank. The Bear Sterns building is estimated to be worth a billion dollars, still it was sold for $236 million that puts into perspective the liabilities the bank currently had. It was sitting on a lot a mortgage backed securities which was turned useless in the current market situation. The leverage obtained from such securities allowed Bear Sterns to post profitable quarter after quarter.

Merrill Lynch is currently sitting on an Investment of $1 trillion dollars with a base equity of $30 billion dollars. Leverage is a great thing to make profits, but when the markets take a turn for the worse, a small in the asset values can wipe the shareholders value. I do not believe in the statements made by the Bank about the liquidity they have currently, after all the Bear Sterns CEO on tuesday made a statement that they had enough liquidity to see this bad phase through and on Friday the Bank was sold to JP Morgan.

Luckily the Federal Reserve has taken active measures to pump liquidity into the Financial System. The Fed chairman Ben Bernake (A scholar on the 1930 depression ) has taken some innovative steps to stop the Financial System from collapsing. Both Lehman Brothers and Goldman Sachs reported better than expected earnings for this quarter. The Bernake solution seems to be working, it should help the Investment banks to stay solvent and do what they are supposed to do help foster economic growth.

Slam Dunk on Wall Street: Coming Soon

Slam Dunk – It almost seems as Kobe Bryant did a slam dunk on the Indian indexes today. Only thing in basketball it’s supposed to be a good thing where you score points. Here we have lost and lost big time. Close to a 1000 points. Whoa! Somebody better catch this or as they say in basketball - DEFENSE. We seem to have none of it at the moment.

The shocking growth in Indian capital goods at 2.1% vs 16.3 in the previous year has really spooked investors and market watchers. This is really bad news as capital goods are the very basis on which the Indian economy has to move ahead. Some market commentators were even talking of 4 digit figures on the Sensex soon. What’s worse is an incident which is indicative of the bureaucratic nature of our economy and the Government failing to do enough to support the economy. L&T which was the contractor for the BIAL Airport finished the project well on time. But the government citing lack of infrastructure facilities around the airport has post phoned the opening to around May 11, 2008. I have personally visited the site at Devanahalli, Bangalore and it is anything but far away from the city. The airport provides nowhere the facilities like at Hong Kong and other major airports offer to reach Central Business districts from the airport in no time.

The past week has been terrible for the Indian economy and US alike. My Twitter (my2dimes) updates say that Goldman Sachs and Lehman Brothers are about to report real bad earnings. Blackstone has already reported shocking earnings. Bear Stearns is done with and right now it’s taking stocks down with it. The dollar has sunk to its lowest in 12 years and that can’t be music to exporters in Japan and India. Chinese commodities also are facing the onslaught of US recession. The subprime write offs have actually exposed the reckless functioning of money markets in a developed economy such as the US. The surrogate bailout of Bear Stearns by the JP Morgan and the Fed, has revealed huge cracks in functioning of the financial firms in US.

The big firms in US better subscribe to lesser aggressive ways of functioning. This means cutting exposure to bad loans, positions in currencies, mortgage backed securities (a prime reason in the Carlyle Capital fallout) etc. The Fed also has to be vigilant in monitoring bad practices and give a rap to the firms who don’t comply. There just cannot be an excuse or else the fallout will be huge and the meltdown will result a Slam Dunk for many of the stocks on Wall Street.

PS: Read interesting analysis for the Indian growth story by Swaminathan S Anklesaria Aiyar

BBC on US Fed's Injection

A day after Fed's injection of $200 billion dollars BBC's Business Editor Robert Peston here explains why even $200 billion won't make any sense and on Carlyle Capital which is on the brink of a collapse.

Robert Peston's Blog on BBC

Feds new tool TSLF

Traditionally the US Federal Reserve(Fed) had three ways to run the monetary policy namely cutting interest rates, cutting reserve requirements and cutting the discount rate. The Fed today came up with an innovative way of dealing with the credit crunch in the financial markets. The financial markets were expecting more than mere rate cuts from the Fed, some way the Fed could buy the mortgage linked securities and bring some confidence back into the Financial markets. The financial media Wall Street Journal, Bloomberg,  CNN Money had articles(linked here) with expectations and predictions about what the Fed might do.

Step in TSLF

TSLF is Term Security Lending facility, This is the Fed's new way of increasing liquidity into the System. What the Fed says is that the Banks can exchange the their mortgage backed securities for treasury bonds on a temporary basis. This should take off the pressure of the mortgage backed securities from the balance sheets of the banks and allow them to lend and borrow in a much more free way. Banks can exchange up to $200 billion dollars of mortgage securities at this moment. With this announcement, Fed probably closed the door on the 75 basis point cut in the increase rates. Stock markets have taken the Fed move in a very positive way with the Dow gaining more than 3.5 percent, even though there was a fall in the Healthcare stocks(More about that in my next post). Indian markets have also continued their recovery, the BSE sensex is 400 points up at this point. The only problem with the TSLF is incase the mortgage securities start defaulting in a big way, the Fed could be holding on to something worthless. Right now the Fed has said that they are going to buy only top rated securities. (BusinessWeek has a nice article on TSLF )

Subprime Equilibrium

Credit crunch, liquidity being sucked out of the system, FIIs not pumping the money, more bad news in the form of Blackstone profits (one of the major investors in India) and crude oil trading at $108 - 109 levels. Life on the stock markets is really tough these days.

Today though, the Indian stock markets showed some signs of recovery. There should be more on Wednesday based on US Federal Reserve decision to lend up to $200 billion to banks and lenders and ease liquidity. The Dow too as I write this is posting good gains based on the central bank’s decision. The US Fed Reserve is really taking some steps to thwart recession and hopefully it works for the US economy and of course that would mean good news to us too.

Point is when the Indian economy was in such good gear just 2 quarters back, has the tide turned really and all developmental activities leading to India’s growth halted. Or is it just a case of the confidence being low all over, more so because of global factors. Such that it has become a wait and watch game for Indian investors. However strong the domestic growth story may be, there is no denying the impact of the rupee on exporters even others than in the services sector. Their margins have got squeezed and which in turn has affected the local players supplying them.

So when is all this going to balance out? How long is long term to stay put in the stock markets. The rupee is going to get stronger as soon as FII start pumping money again on account of Indian growth story which in turn would hurt exporters or till the FIIs don’t pump in money the stock markets will keep searching for directions and which will hurt investor sentiments. It’s time to get the fundamentals in shape such that the Indian growth story remains intact and still provides value. It’s a time reassess business strategies and growth drivers such that investors have confidence in India and come in droves.