The FTSE 100 had another shocking day yesterday, falling 250 points – more than 4% – to close at 5,858. It was its worst single-day fall since March 2003.
The carnage may ease up today – US markets had a bit of a bounce later in the session on hopes that the Federal Reserve will lose its nerve and cut interest rates. But there’s no doubt that this is the worst havoc the markets have seen in recent years.
But never mind, our leaders are telling us. Who cares about the esoteric world of FTSEs and CDOs and ABCPs? After all, our underlying economy is strong. Fundamentally (a great word to draw on in a crisis) we’re in good shape.
We suppose that depends on your definition of good shape. If that involves being up to your neck in debt and entirely reliant on yet more borrowing to keep propping up your economy, why, then yes, we are in good shape.
Of course, if you believe that, then you’re probably already working at the Treasury…
You know the turmoil in the financial markets has been bad when politicians start to comment on it. They only comment on financial stories when they manage to crawl out of the business pages and onto the front pages. The fuss over private equity’s a good recent example of this phenomenon.
And now that we have front page headlines about billions being wiped off the London Stock Exchange, the government feels it has to throw a few soothing words to the electorate, in case we panic and descend on the Houses of Parliament waving our torches and pitchforks.
The Treasury lumbered from its post-Gordon Brown torpor and emerged blinking, into the light of a world without cheap money, with what were “its first comments since the crisis began,’ said the FT. What were these words of wisdom?
“There will always be periods of uncertainty in the markets but the long-term decisions the government has taken – giving independence to the Bank of England, the fiscal rules and low and stable borrowing – have created a strong platform of economic stability,” it gibbered.
In other words – “all this City stuff has got nothing to do with us, and frankly, you shouldn‘t worry about it either. Now run along and buy more houses.”
It echoed George Bush’s knee-jerk response to the market routs last week – nothing to see here, markets go up and down all the time, and we’ve got a strong economy anyway, so everything will be OK.
Nonsense. The US and UK economies have been propped up by cheap debt. The decisions that our government has taken – largely under the auspices of Gordon Brown when he was Chancellor – have driven the country as a whole and consumers individually deeper and deeper into debt.
Even in Old Testament days, they knew that you should put aside something during the good times – the seven years of plenty, if you will – so that you had something to fall back on during the bad times. Well, it’s looking increasingly like we’ve had our good times, and we’re about to have our seven years of drought and famine – and we’ve got absolutely nothing in the piggy bank to keep us going.
As Lex in the FT says this morning, there are two main ways that all the havoc in the financial markets is likely to transmit through to the “real” economy. The first is through consumption. “Across the world, household spending has been buoyed by both property and equity prices,” it says. This is the ‘wealth effect’ – if your house is going up in value, and your stock investments (this has more impact in America, where a far bigger proportion of the population actively invests in the stock market), then you feel rich. Therefore you feel less need to save, so you spend more.
“If the US housing slump deepens, for example, and markets continue to be weak, consumption growth will slow,” Lex continues. As we’ve already seen this week, there’s plenty of evidence of pressure on consumers already. There have been profit warnings from Wal-Mart and other big retailers in the States, while there’s no good sign of the US housing market getting anything but worse in the months ahead.
Meanwhile, the other way the ‘real’ economy will start to feel the pain is through “the effect of rising borrowing costs on companies’ capital expenditure and hiring.” In other words, as it gets more expensive to service their debts, companies won’t have as much money to spend on hiring and expanding. “There is already some evidence that software and equipment spending is softening in the US. Employment would also be hit. This would be the final nail for consumption as the level of employment is closely linked to real disposable income growth.”
And of course, if consumption dries up, most of the companies in our services-based economies will feel the pain even worse, lay off more staff, and so you have a vicious circle of rising job insecurity, and falling spending.
At a time when UK consumers are in debt to the tune of £1.3 trillion, job losses and more expensive debt servicing costs are not what you want to be hearing about. If the Treasury was being honest, it would have said something more along the lines of – “Hmmm. We seem to be heading for a financial crisis at a time when we’re all more vulnerable to a credit crunch than we’ve ever been before. Ah well, at least the sun‘s shining.”
We may be reaching for our pitchforks yet.
As we flagged up yesterday, MoneyWeek editor Merryn Somerset Webb takes a look at how bad things could get in the latest issue of MoneyWeek, out today. “Just how deep will this crisis run?” The answer isn’t pretty – but it could save you a lot of money in the long run. Subscribers can go online to read the latest issue here: Latest Issue.
And if you’re not already a subscriber, you can sign up for a three-week free trial by clicking here: Sign up for a three-week free trial of MoneyWeek.
Turning to the wider markets…
It was a gloomy day in London as the FTSE 100 fell 250 points to end the session at 5,859 yesterday, with every blue-chip slipping into the red. It is the first time the index has closed below the 6,000 mark since October 2006. The broader FTSE indices were also lower. Falling metals prices and concerns over slowing growth saw miner Antofagasta slump by nearly 11%, whilst peers Lonmin and Anglo-American were also down by over 9%. For a full market report, see: London market close
Shares were sharply lower across Europe. The Paris CAC-40 was down 3.3% to 5,265 and the German DAX-30 was 175 points – or 2.4% – lower at 7,270.
On Wall Street, the Dow Jones fell over 100 points in the first four minutes of trading on news that Countrywide Financial had drawn on an entire $11.5bn credit facility as financing for mortgage lending dried up. However, despite having fallen by as much as 340 points earlier in the session, the Dow ended the day just 15 points lower – at 12,845 – thanks to a late bounce led by the financial sector. Bear Stearns jumped nearly 13% on news that it was in talks with potential investors, and peers including JP Morgan and Citigroup were also sharply higher. The S&P 500 reversed earlier losses and ended the day 4 points higher, at 1,411. However, the tech-heavy Nasdaq was down 7 points, at 2,451.
In Asia, shares continued to fall despite the rally on Wall Street. The Japanese Nikkei tumbled 874 points to end the session at 15,273 as the stronger yen triggered economic concerns. In Hong Kong, the Hang Seng was 285 points lower, at 20,387.
After yesterday’s sharp falls, crude oil was steady at $71.11 in New York whilst Brent spot was at $69.23 in London.
Spot gold had fallen to $646.75 this morning, down from $650.50 in New York late last night. And silver was down to $11.51.
In the currency markets, the pound fell to its lowest level against the yen in almost a year this morning – 219.13 – and hit a fresh two-month low against the dollar before edging up to 1.9737. And the dollar was at 113.18 against the yen and 0.7447 against the euro.
And in London this morning, pharma GlaxoSmithKline led London stocks higher in early trading. The pharma added as much as 1.3% on news that its experimental flu vaccine may be effective against more than one strain of avian flu, meaning it may potentially be stockpiled to protect against a pandemic.
And our two recommended articles for today…
Is this a cancer – or a bad bout of flu?
– It began in the dodgiest sector of global finance – US subprime mortgage lending – and now the crisis is spreading to other sectors and across the globe. But whilst markets will be sickly for some time to come, this crisis is unlikely to turn into a catastrophe, says Martin Spring. For the six investment opportunities to seize on as investors turn against risk, read: Is this a cancer – or a bad bout of flu?
How to play the currency markets
– Whilst now may not be the ideal moment to move into this risky and fast-moving area of investing, understanding how foreign exchange markets work is essential if you want to protect your portfolio against adverse currency movements. To read Tim Bennett’s guide to the what, when and where to start of currency trading, see: How to play the currency markets