Tuesday, July 24, 2007

Credit Market Fall-Out #10 – Looks Like the Market is Beginning to Slow Down

With all the problems the credit markets are having given losses, rating uncertainties, value issues, etc. it was inevitable that the market would slow down. The question is how will this effect the lending markets for new mortgages. The mortgage companies and banks are not going to make sub-prime loans and hold them in their portfolio. Also there is a lot of fee income that the investment banks are no longer going to earn. Lastly, what will be the effect on the stock market when this spills over into the leverage buy-out (LBO) market. I still think the 2nd half of 2007 will be pretty interesting to watch - from a distance. From Bloomberg:

The Wall Street money-machine known as collateralized debt obligations is grinding to a halt, imperiling $8.6 billion in annual underwriting fees and reducing credit for everyone from buyout king Henry Kravis to homeowners.

Sales of the securities -- used to pool bonds, loans and their derivatives into new debt -- dwindled to $3.7 billion in the U.S. this month from $42 billion in June (my emphasis), analysts at New York-based JPMorgan Chase & Co. said yesterday. The market is ``virtually shut,'' the bank said in a July 13 report.

Investors are shunning CDOs after the near-collapse of two hedge funds run by Bear Stearns Cos. that owned the securities. Standard & Poor's downgraded bonds from 75 CDOs as mortgages to people with poor credit defaulted at record rates. Concern about losses on home loans are rattling investors across the credit spectrum.

``We're walking on thin ice,'' said Alexander Baskov, a fund manager who helps oversee $25 billion of high-yield debt for Pictet Asset Management SA in Geneva. ``People are trying to find value and the right price and right now nobody knows what it is. Pretty much everyone is in the dark.''

Investors are demanding yields 10 percentage points higher than benchmark rates to compensate for the risk of losses on some of the lower investment-grade rated parts of CDOs, up from 4 percentage points at the start of the year, according to data compiled by Morgan Stanley in New York.

. . . . Banks are becoming more skittish about providing credit lines, called warehouse financing, managers use to buy assets that go into CDOs in the months before the securities are issued, said James Finkel, chief executive officer of Dynamic Credit Partners. The New York-based company manages $7 billion in 10 CDOs and a hedge fund.

. . . . On top of management fees, banks underwriting CDO sales charge underwriting fees as high as 1.75 percent, compared with an average of 0.4 percent for selling regular investment-grade bonds, according to data compiled by Bloomberg. Banks collected $8.6 billion underwriting CDOs last year, according to a report last month by JPMorgan analyst Kian Abouhossein in London. They took in another $3.8 billion from related trading, investing and other activities, the report said.

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