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It’s a debacle, it’s a mess, it’s the gloriously predictable result of giving people whose credit histories read more like horror stories enough money to buy a house – you guessed it, it’s the US sub-prime meltdown.
The financial world is once again learning the hard way that no matter how you dress it up, or how many maths PhDs you get to work on the sums, the fundamental laws of finance are pretty simple.
If you give money to someone who can’t pay it back, you’re going to lose that money. And unless you operate at the end of the loans market where the head of your credit control department brings a baseball bat to work with him, the chances are you’ll go out of business pretty sharp-ish.
As an increasingly large number of investment banks are finding out…
London-listed Caliber Global Investments is the latest casualty of the US sub-prime market collapse. Fund manager Cambridge Place was forced to close the $908m fund yesterday, reports The Times, “after suffering a net loss of $8.8m in the first quarter of this year”. The fund was about 60% invested in the US, “mostly in mortgage debts rated BBB or below.”
We gave a brief rundown earlier this week of how these things are put together (see The US hard landing just got harder). Broadly speaking, the further down the pile you are from AAA (the top credit rating), the more exposed you are to individuals defaulting on their mortgages. But with defaults coming in much thicker and faster than anyone expected, even AAA is looking wobbly, so forget about BBB making you any money.
Caliber isn’t the first and won’t be the last casualty. When hedge funds go under, people sometimes point to the collapse of Amaranth last year. The multi-billion dollar hedge fund went bust with no wider ill effects on the market whatsoever. The only trouble is, the Amaranth situation was entirely different to what’s happening now with Bear Stearns and the like.
Amaranth made some bad bets on what was otherwise a liquid, well-understood market – the energy market. Basically, it bet on red when it should have bet on black. It didn’t have the money to cover the losses – but other investors came in, took over its positions, and rode out the storm to the tune of a very nice profit, in the end.
But the situation with US sub-prime is more like sitting at a poker table in the casino, and finding out halfway through the game that all those blue chips you‘re holding onto, which you and everyone else had thought were worth £1,000 each, are actually only worth £10 each. And yet, you’ve been placing big bets as though you were a millionaire – you’ve borrowed money from friends, from other people at the table – and all of a sudden, your asset base has turned to dust. On top of this, anyone who gave you money also realises that they’re not going to see it again – they’re not as rich as they’d thought either.
That’s the kind of thing that “curdles confidence”, as James Harding puts it in The Times. “Bond issues from companies as diverse as Kia Motors, Arcelor Mittal and US Foodservice have all been postponed in recent days. According to one estimate, losses on sub-prime could be as high as $75 billion. This feels like an epic with more chapters to come.”
We couldn’t agree more with Mr Harding – all he forgot to add is that, this is one epic that won’t have a happy ending.
Just before we go, I mentioned Paul Hill’s investment email service yesterday – I’ve just been talking to Paul about his latest tips and it’s been a very good week for his subscribers. No fewer than five of his current stock tips have come out with good news of one sort or another in the past five days – driving one of said stocks up by more than 15% on Tuesday.
Still, given Paul’s track record, you couldn’t blame his subscribers for taking that kind of news for granted – after all, on an absolute return basis, his portfolio is up 56.8% since launching on 20th March last year, with an average gain per tip of 19%. Past performance is of course, no guide to future performance.
Turning to the wider markets…
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In London yesterday, the FTSE 100 added 43 points to end the day at 6,571, just off an intra-day high of 6,575. Experian topped the FTSE leaderboard as investors showed their approval of its Brazilian acquisition earlier in the week, but a poorly-received trading update saw Diageo lead the fallers. For a full market report, see: London market close.
Elsewhere in Europe, the Paris CAC-40 closed 64 points higher, at 6,006 and the German DAX-30 was 120 points higher, at 7,921.
On Wall Street, stocks closed mixed as the US Federal Reserve kept interest rates on hold but issued an accompanying statement which left the market uncertain. The Dow Jones lost 5 points to close at 13,422, the tech-heavy Nasdaq was 3 points higher, at 2,608. And the S&P 500 was a fraction of a point lower, at 1,505.
In Asia, the Nikkei added 206 points to close at 18,138 today.
Crude oil futures rose as high as $70.50 in New York yesterday, but had fallen back to $69.80 this morning. Meanwhile, Brent spot was at $71.79 in London.
Spot gold fell to its lowest level since March yesterday – $638.90 – but was trading at $647.60 this morning. (For more on the latest gold market action, click here:
Gold
). Silver had risen to $12.44.
In the currency markets, the pound hit a two-month peak against the dollar and a four-month high against the euro this morning and was last trading at 2.0020 and 1.4879 respectively. Meanwhile, the dollar was at 0.7430 against the euro and 123.41 against the Japanese yen.
And in London this morning, a report by the Office for National Statistics revealed that the UK economy grew faster than expected in the first quarter. GDP growth was 3% compared to analysts’ estimates of 2.9%, further raising expectations that the Bank of England will hike the base rate next month. Meanwhile, a report by Risk Management Solutions estimated the cost to insurers of recent flooding across the North-East and the Midlands at £500m.
And our two recommended articles for today…
Learning the lessons of the Asian financial crisis
– Just under a decade ago, the Asian financial crisis plunged the region into an economic nosedive. To find out how well the countries affected have recovered – and what lessons have been learned – click here:
Learning the lessons of the Asian financial crisis
Why Japan’s post-bubble depression is a warning to us
– Japan is finding shaking off its post-bubble depression harder than anyone would ever have thought. This is a glimpse of what lies beyond our very own credit bubble, says Adrian Ash. To find out what Japan can teach us about fear of the future, see: Why Japan’s post-bubble depression is a warning to us