Tuesday, June 19, 2007

Credit Market Doomsday #1

This from the BBC last Thursday talks about the level of increasing volatility in the bond market and the effects this could have on the housing, hedge fund, and stock markets.

Until recently, we have been living in a period of low global interest rates that have let consumers and companies borrow money cheaply.

That has driven demand for mortgages, let companies pay increasingly large sums for takeovers, and allowed consumers to spend freely.

And the results of this credit splurge are hard to ignore:

1. UK house prices have doubled in the past 10 years.
2. China's main stock index has quadrupled in value since the start of 2006.
3. The UK's FTSE 100 and US S&P 500 stock indexes are at levels not seen in almost seven years.
4. Commodity prices have been buoyed by strong global demand, pushing some such as copper to records.
5. Merger and acquisition activity has taken off, and private equity firms are now in control of some of the world's biggest brands.

But as the records have continued to tumble, concerns have kept on mounting. One of the main reasons for the current uncertainty has been the significant changes and volatility in the US bond market.

Simply put, this means that investors are not expecting interest rates to fall anytime soon, especially as the Bank of England, the US Federal Reserve and European Central Bank have all been lifting borrowing costs in recent months.

What has many observers worried is the sudden speed with which the change occurred and the fact that it seems to confirm the view that the era of low interest rates has ended.

First and foremost this will make it more expensive for companies and consumers to get their hands on cash.

That in turn could lead to fewer private equity deals, and a cooling of the housing and stock markets.

Certainly stock markets are exhibiting some classic warning signals as well. . . .

Wall Street giant Morgan Stanley told investors that its indicators were showing a "full-house" in terms of sell triggers, and that this had only happened five times since 1980.

Each time, global equities have lost an average of 15% over the following six months, it said.
"At this stage of bull markets larger corrections become more frequent," Morgan Stanley said.

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